The pound reached its highest level against the euro in four months on Tuesday, buoyed by signs of resilience in the British economy and expectations that the Bank of England would likely delay rate cuts compared to its counterparts.
The euro fell to its lowest point since early September, touching 85.48 pence, and was last down 0.12% at 85.53 pence.
Against the dollar, the pound showed little change at $1.2711.
Analysts at Monex Europe noted an overall improvement in sentiment toward the UK economy.
“Sterling longs are best played on a relative value basis against cyclically weak currencies (i.e. euro and Canadian dollar), with both already paying out over a percent year-to-date,” they added.
On Tuesday, data revealed that the UK recorded a smaller-than-expected budget deficit for December, potentially creating space for tax cuts in the upcoming March budget.
The key question for the British currency in the medium term is whether the Bank of England will lag behind the Federal Reserve and the European Central Bank in terms of rate cuts and by how much.
The upcoming ECB meeting on Thursday might provide some insights. Although no change in rates is anticipated, attention will be on how officials respond to market expectations of an ECB rate cut as early as April.
Market pricing indicates roughly a 50% chance that the BoE will start cutting rates in May, though this timeline may be too early given the bank’s concerns about persistent inflation.
“A lot will need to go right for an easing cycle to begin as early as May, especially in the midst of a still hawkish Bank of England focusing more on late-cycle variables, such as wage growth and services inflation,” said analysts at Deutsche Bank.
The yen experienced volatility after a Bank of Japan meeting, where the central bank maintained its ultra-easy policy settings. However, market signals suggested an end to its negative interest rate policy was on the horizon.
The pound remained stable at 188.11 yen, just below last week’s high of 188.91 yen, the highest level since 2015.