Geopolitics Remains in Focus for the Pound as We Enter the Holiday Season…

The UK enters Christmas week, with Boris Johnson preparing his first Christmas in 10 Downing Street. Well… not in literal terms.

For some, there may have been expectations that the British PM will ease into the role once the majority was in place.

They will have been disappointed. It is a significant moment in time for Britain and the EU…

The British PM may finally be in a position to highlight the fracture within the EU that has led to the more prosperous member states from loosening their purse strings.

Since the evolution of the concept and the year of conception, the member state composition of the Eurozone raised questions on how fiscal policy and monetary policy could work in tandem.

ECB President Draghi tried his best to pressure the likes of Germany to do what was needed.

Over the last few years, such a prospect has become even more challenging, with immigration a fundamental issue amongst member states including, but not limited to France, Germany, and Italy.

Populist governments have evolved and, for Greece and Italy, are already in office.

So, how will such a disjointed economic bloc be able to reach an agreement on trade terms that are likely to benefit some more than others?

This may be the very reason why the EU is skeptical about the 1-year time frame to negotiate a deal.

What Juncker and the team have failed to mention, however, is that the failings may well come from the EU and not from Britain’s ambitious goal to go it alone.

The Establishment

More poverty-stricken EU member states will want a slice of any trade deal pie. After all, assuming that an EU wide agreement is the end result, it would require each and every member state to vote in favor. That’s 27 member states, some of whom do very little if any, trade with Britain.

So, some member states have far more to lose, in terms of trade, than others.

If we look at trade figures for 2018, 45% of UK exports went to EU member states. France, Germany, the Netherlands, and Ireland comprised the top 5. The U.S, ranking 1st, was the only nation that came from outside of the EU.

The numbers may appear damming, but the reality is that the UK was tied into EU trade agreements with the likes of China that have been far from preferential.

Going it alone may well deliver a sizeable boost to the size of exports to the likes of China.

Looking at it another way, however, is that the UK has a trade deficit with the EU and therefore economically is of significance to the EU.

In 2018, cars accounted for the UK’s top imports and exports. It’s not therefore surprising that the UK is an important trading partner with the likes of Germany and France…

Next Steps

The EU must now come up with a final list of demands on trade terms from the UK. That means that 27 member states will need to come to a consensus and they only have until 1^st February.

Once the list of demands is complete, trade talks are then scheduled to begin in March.

Assuming that the 27 member states are able to deliver their list of demands by 1^st February, negotiations will need to be signed, sealed, and delivered by 31^st December 2020.

Some view Boris Johnson’s drop-dead date in a negative light. They see this as dis-incentivizing the EU from attempting to get across the finish line.

Others likely feel, as Johnson does, that the UK needs to push the EU, else progress would become a major issue and would leave Britain forever in the arms of the EU. Whatever the outcome, Johnson is at least preventing the EU from playing such a card…

British voters stood firm in the General Election, giving Johnson and the Brexiteers an overwhelming victory. The message was loud and clear… Enough is enough.

Macron can threaten to cement the entrance to Le Tunnel and ban British airlines from landing at French airports. But really, no such threat will likely become a reality. While the Anglo-French ding dong is unlikely to stop anytime soon, both need an ongoing relationship. The relationship is going to need to continue, not just economically but also from a national security perspective.

The same goes for Germany…

In reality, the General Election outcome was an unexpected one for the EU, well, perhaps there had been some wishful thinking.

The EU could have handled Brexit negotiations more amicably. Brits may then have viewed the EU relationship in a more favorable light…

One thing is for sure, Macron and his close allies didn’t help the cause. Why would anyone change their vote from leave to remain when an apparent ally lays such threats?

The Pound

So, what does all of this mean for the Pound?

Sadly, painful negotiations and a lack of progress will certainly be a negative for the British Pound.

Fortunately, however, Johnson has an apparent lack of interest in how the Pound performs. Ironically, the weaker the Pound gets, the better it is for the FTSE100 and for UK trade terms.

For the 100, more than 70% of revenues come from overseas. Unfortunately, however, this includes revenues earned from the EU…

If that doesn’t sound complicated, it should when you factor in WTO trade terms with the EU. That would have an impact on company profitability if this becomes an eventuality.

Yes, firms can pass on some of the tariff costs but not all. After all, British companies will need to remain competitive as the country goes it alone…

For the ever optimist, the U.S forms the largest single source of revenue, towering above France, Germany, and Italy.

And, Boris Johnson’s pal could give U.S firms tax breaks to boost business with the UK. That would give Trump a much stronger footing in Europe than its existing and unhappy membership in NATO…

The markets, therefore, need to consider a number of scenarios that could play out in the coming months.

First and foremost is how easily the 27 EU member states can come up with a simple list of demands.

At the time of writing, the Pound was down by 0.1% to $1.29818. Hopes of a return to $1.40 levels have vanished for now, but have not completely evaporated.

Swift progress and expect optimism to sweep the FX world…

If only Johnson could form bilateral trade agreements with key EU trading partners. He could then just look elsewhere to make up the difference…

It does beg the question of how free we will ever be from the EU.