Brexit Just Hit a Stumbling Block
The British pound sterling (GBP) started to rise on Thursday as a court ruled that Brexit is conditional on the approval by the U.K. parliament.
Investors are scrambling to cover their short positions in the wake of the decision, according to several analysts. Traders had taken bearish stances on the pound when it seemed like Brexit was assured, but those odds are dramatically altered by the recent court decision. (Source: “Pound Surges After U.K. Court’s Brexit Ruling,” The Wall Street Journal, November 3, 2016.)
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Government officials needed to trigger Article 50 of the Treaty of Lisbon in order to initiate Britain’s departure from the European Union (EU), but now they also need parliamentary approval. Getting this approval could be difficult, considering how much bad press followed the Brexit decision.
Pro-EU parliamentarians, of whom there are many, could appeal to their constituents for a last-minute reversal. Meanwhile, Prime Minister Theresa May definitely cannot begin negotiations with the EU government until after a U.K. parliamentary vote is held.
So, even the worst-case scenario for anti-Brexiters is positive for the British pound.
It was unsurprising to see the pound sterling rise more than 1.4% against the dollar after the court ruling was announced, especially considering that the Bank of England (BoE) maintained an accommodative monetary policy stance.
By holding interest rates steady and continuing to pump easy money into the economy, the BoE stimulus is keeping economic outlook relatively upbeat, thus leading to an increase in the British pound.
That being said, loose monetary policy aims to depress the local currency in order to make it competitive in the global marketplace. The policy’s positive impact on the GBP was due to widespread belief that Brexit would be a major headwind for the British economy.
Delaying, or even stopping, that catastrophe from taking place is perceived as a good thing for the GBP. Investors are hoping that the BoE has enough time to stimulate the economy, as demonstrated by their reactions to the monetary policy announcement.
The window for easy money is fast closing as inflation edges higher, with BoE estimates saying prices could rise as much as 2.7% in 2017. Since the central bank has a ceiling of two percent in its inflation target, its willingness to print money will diminish as price growth accelerates.
