What’s Going On With the Great British Pound (GBP)

The Sterling has failed to make gains against the single currency despite the re-eruption of the debt crisis in Greece and Portugal, and of contagion worries for Spain.

This is because of the interest rate gap that has broken out between the UK and European Union. The main European Central Bank refinancing rate is at 1.25% versus the record low 0.5% maintained for more than two years by the Bank of England.

The gap is expected to widen, with the ECB making at least one more hike this year, while the BoE might not raise rates at all.

The pound is historically quite weak against the euro: even recent highs near 1.20euro were low compared to the days of 1.40eur, which are gone for the foreseeable future. The pound is now trading at around 1.2011 and has been holding its own against the dollar at the $1.58 mark.

The dollar had been weak because of economic and debt crisis in the US and the edge of recession and the tumbling housing and jobs markets. Recently, the USD has been able to gain strength as the US economy is now in full recovery mode.

The pound’s fortunes so far this year have ebbed and flowed on the tide of interest rate rise expectations – which have gradually been put further back. Both markets and economists now think rates will not rise until well into next year. This has been compounded by monetary policy and quantative easing.

Central bank will only swing behind a rate rise if the economy suddenly begins to look more robust, or if inflation ticks up even higher above the bank’s forecasts.

The eurozone debt crisis is a double-edged sword for sterling: it keeps the euro weak but also dampens European demand for British exports and therefore endangers the UK economic recovery.

It would additionally disturb the financial markets and continue the flight of investors to the safety of the dollar – which would strengthen against both European currencies. But a third round of quantitative easing from the US Fed would limit any dollar strength. This has been basically killed by the Feds and the recovery on the US economy. The USD is now building strength on recovery.

In a survey of City analysts by Hargreaves Lansdowne, forecasts for the pound at the end of 2011 ranged from €1.05 to €1.35, with the majority predicting the pound would rise above €1.25. in early 2012.

Versus the dollar, forecasts ranged from $1.40 to $1.60, with 36% predicting the pound will make progress above US$1.60 and an equal proportion expecting sterling to slip back below US$1.50. The remaining 27% predict sterling will stay in the $1.50-$1.60 range. The GBP is trading today at 1.5893

Today, British Treasury chief George Osborne said there was no need for further fiscal tightening by the British government as he presented a 2012-13 budget plan to the House of Commons that he declared to be “neutral” over the next five.