Ever since a public vote (called the referendum) resulted in the withdrawal of the UK’s membership from the European Union, the British pound has been the most volatile currency in the market, as a direct result of the economic and political turmoil that came with the UK’s withdrawal from the EU.

Brexit predictions have led to a universal consensus that the UK’s economy will be rocky at best, considering its strained relationships with the EU and its other major trading partners.

While GBP traders choose to listen to computer models and technical analysis, it would be wise to understand the economic influences that cause the value of the British pound.

In this article, we’ll dive deep into the fundamental aspects that surround the trade of the British pound.

What the British pound currently looks like

On referendum day, British pound exchange rates with the US dollar came at 1 GBP to 1.50 USD ever since the prices have been playing around 1.2 and 1.44 USD for 1 GBP.

As the withdrawal of the UK from the EU became official last January 31, in this new decade, we are looking at 11 months of transitioning, where decisions will be finalised regarding the details of Brexit.

If the transition period brings a “hard” Brexit, wherein WTO trade policies will bound the UK. This hard Brexit will lead to a drop in the UK GBP by 0.5% every year. With the decline of UK GBP, we are looking at losing the purchasing value of the British pound to about 10%, ultimately putting the GBP and USD exchange rates at 1 is to 1.20.

However, if, during the transition period, specific negotiations are established between the UK and EU, we call this a “soft” Brexit. While a “soft” Brexit would lead to a temporary downfall of the British pound, this is a sign of possible future investments for traders because it would mean that the GBP will eventually recover and stabilise in the future. In this event, it is best to hold on and grow your GBP assets for the meantime, before waiting for the price to increase with positive economic developments.

The fundamentals of trading with the British pound

As of writing this, the power of the pound sterling to the US dollar is at 1.23 USD for 1 GBP. In every way, these exchange rates are cheap. The worst that the pound could see is at 1.20s, whereas the best that it could probably be depending on the future economic developments is at a whopping 1.45 or higher. This implies that risk factors favour the UK GBP over the US dollar.

When it comes to trading the pound to the dollar, the dollar has had relatively high purchasing power since 2018. However, with the growing inflation, and adverse political developments, the US dollar is slowly losing its once-strong purchasing power.

What you should remember is that the interest rates do not solely dictate the strength of currencies. Because of funding gaps and fiscal imbalance, countries need their money to weaken. A weaker currency will lead to more comfortable paying off debts and an increase in export. Thus, making the economy stronger. A higher currency has a higher purchasing power, which leads to a favourable increase in imports. A weaker currency for one country is beneficial to another country with stronger currency as they can afford imports of a higher quantity.

The British pound post-Brexit day

After delays, negotiations, debates and other political matters, Brexit day finally pushed through last January 31, 2020. And with an 11-month transition period, the new talks between the UK and the EU are currently being drafted.

Post-Brexit, we look at how the pound fairs in the market. For one, Brexit itself is very costly for Britain. We are looking at £203 billion worth of losses by the end of this Brexit year alone. This amount is equivalent to the total contributions of the UK to the EU since it became a member in 1973.

Surprisingly, in the last hours of the EU-UK partnership, the British pound held on strong against the US dollar. Exchange rates that day were at 1 GBP to 1.32 USD. However, this spike in the value of the British pound did not last very long. This was a small gain of 0.9%.

Three days after Brexit day, the GBP felt a decrease of 1.26%. This was on February 3, 2020.

Ever since the announcement of the transition period on Brexit day, the British pound has been extremely volatile. And it will continue to be so until negotiations within the UK and the EU are finalised.

The consequences of these negotiations are already mentioned above. This is the case of a “hard” Brexit and a “soft” Brexit, along with the economic effect of each.

In the long run, for now, the economic future of the UK and the EU is heavily dependent on the political negotiations that will take over these 11 months. Economic debates will take place, exploring the possibilities of a “deal” or “no-deal” situation for both the EU and the UK. These negotiations will heavily dictate the strength of the British pound in the market.

However, as we enter the fifth month in this transition period, the volatility of the pound leans toward more on the negative side, ultimately being priced at a cheaper purchasing power when compared to the US dollar.

This article was an overview looking into the fundamental aspects of trade using the British pound. We also discussed the strengths and capabilities of the GBP as tied to the unstable and uncertain economy of the UK after its EU withdrawal.

This article also presented the two primary options for Brexit—a hard and soft Brexit—and the implications of each, in a hypothetical future, to prepare for the possible versions of the UK economy.