With Brexit a reality, what next for the pound?

The Brexit process has formally begun with Theresa May signing the letter under Article 50 of the Lisbon Treaty triggering the exit. The pound (GBP) hit a low of 1.2378 against the dollar in early trade on Wednesday, but managed to steady itself thereafter.

The reaction of the pound to the news reflects the extent to which financial markets have already absorbed the news. Given the sharp decline in the pound against all major currencies since the referendum, it’s possible that with the end of the uncertainty, the British currency could rally higher.

Another reason for the muted reaction of the currency market is due to the extended time-line for the unfolding of the event. This is just the beginning of a long road that will be traversed over the next two years during which the European Council and the UK will decide on the terms of the exit.

The negotiation guidelines will have to be first agreed upon and adopted, then face-to-face talks will be held on, among others things, the extent of UK’s liabilities towards the European Union and new trading and immigration pacts. The new deal will have to be passed by both Houses of the UK Parliament as well as the European Council; the entire process will end in March 2019.

Currency markets were in turmoil in June 2016 as the decision of the Britons to exit the European Union shocked investors. The GBP had plunged sharply against the dollar then, losing more than 20 per cent between June and October last year.

It was fear about UK trade shrinking drastically post-Brexit that weakened the pound considerably. But it is quite likely that the deals signed over the next two years, as the process of exiting takes place, might turn out to be neutral or even favourable to the UK.

It is probably for this reason that the pound has not lost too much ground against major currencies after October 2016.

In fact, the GBP’s sharp decline has helped the country’s exports. The GBP has lost between 11 and 30 per cent against all major currencies since last June.

UK’s exports have managed to increase from £44 billion in June 2016 to £49 billion in January 2017 — an 11 per cent rise. The country’s GDP growth improved from 1.7 per cent in the June quarter of 2016 to 2 per cent in the December quarter.

The country’s benchmark index FTSE 100 has also managed to rally 20 per cent in this period, showing that investors are also quite optimistic about the UK turning around fairly fast once the terms of the Brexit are sorted out.

The GBP-INR exchange rate is currently 20 per cent lower compared to pre-Brexit referendum levels. The good news is that the pound did not lose too much ground against the rupee since October, largely moving in the 80-85 band.

Eighty appears to be a support zone for the pound-rupee pair and another reversal is possible from here. But if things continue to deteriorate, a fall to 70 or 67 could be on the cards. Those holding forex hedges in GBP-INR need to be watchful at these levels, for further weakening of the pound might not be on the cards.

The UK is not a very significant trading partner of India with 3 per cent of India’s exports going to the UK and 1 per cent of the imports coming from UK.

There are, however, hopes that as the UK loses preferential access to other EU nations, it will want to forge better trading relations with India.

India’s exports to the UK in the April-December period of FY17 was ₹42,712 crore, making up 3.1 per cent of the country’s exports. Imports from UK amounted to ₹18,775 crore in the same period.

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