This guest article was written by Ian Fallon, Chief Market Analyst for AvaTrade.
As the dust begins to settle after the market mayhem of the last few days, we are still no clearer on where things are headed for the pound.
The pound reached its lowest price against the dollar on Monday morning, dipping below 1.32 briefly but it somehow managed to keep its head above this significant level for the time being, closing above 1.33 for the day. If we see the pound close below 1.32 the next level to really take account of will be 1.20.
Cable has been fairly stagnant on the morning of Cameron’s first meeting in Brussels with the EU since the UK’s decision to leave. The Prime Minister will attend a working dinner with EU leaders this evening to discuss the UK’s decision but will not attend the breakfast meeting the morning after, where the remaining 27 leaders of the EU will discuss the aftermath of the UK’s decision and what may be on the cards in the future.
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The pound has already been stripped of its treble A rating from Standard & Poor’s and the credit rating agency Fitch. The UK was downgraded to an AA rating as uncertainty grows about growth for the UK and the fact that Scotland is almost guaranteed to hold a second referendum which could lead to a constitutional crisis. The fact of the matter is, with lower immigration, a potential slowdown in property price growth, significantly less foreign direct investment and a large question mark over UK’s access to the single market, the medium term growth for the UK is looking very bleak.
If we do see a major slowdown in growth, we could easily see the economy head into recession. If this is the case, we could be looking at a more difficult situation than we saw in the economic crisis of 2008. Interest rates are at 0.5% which would leave very little room to manoeuvre. If the UK were to cut the rate we would see more confidence being inserted back into the market but it would also mean that the pound would decrease in value and we would see less of a demand from foreign investors looking to invest in the UK.
The other factor to take into account is, if the UK has limited access to the EU single market and is in the midst of a recession, not only will you have a halt on job creation from the majority of home grown companies but you might also have a mass exodus from some of the multinational firms from London etc., looking to leave and bringing thousands of jobs with them, leaving an even larger hole in the job creation for the UK economy.
There are a lot of questions still to be answered, and we know the markets don’t like uncertainty: will the stock market recover from its worst session since 2011? Will the British pound recover from its worst day in 30 years? Will the Fed be forced to table any plans for a rate hike in July and September? Will there be a domino effect of other nations leaving the EU?
The fact is, without these questions being answered we do not have a definitive answer what will happen in the future. The pound will certainly take time to recover and it will be very responsive over the next while to news, so even the slightest hint of good news could send the market higher but also vice versa.