The Pound to Euro exchange rate (GBP/EUR) opened around 0.3 cents higher on Sunday evening at a 9-month high of 1.1980 as concerns that political issues in Italy and America could destabilise financial markets damaged risk sentiment.
Over the weekend five ministers belonging to Silvio Berlusconi’s centre-right People of Freedom Party (PDL) announced their resignations in protest of the former Prime Minister’s ban from office due to a conviction for tax fraud. The resignations mean that Prime Minister Enrico Letta coalition government is likely to collapse in the immediate future, potentially throwing the Eurozone’s third largest economy back into chaos.
Nicholas Spiro, of Spiro Sovereign Strategy, said that markets had grown accustomed to “Italy’s dysfunctional politics”, but argued that the latest plot twist could lead to “a loss of fiscal credibility and a further tarnishing of Italy’s image abroad: the whiff of further rating downgrades is in the air”. The political tensions have put significant pressure on Italian 10-year government bond yields and currency traders are also worried that the latest in Silvio Berlusconi’s saga of controversy could negatively impact the progress that has recently taken place in the currency bloc.
European Central Bank President Mario Draghi’s assertion last summer that the “Euro is irreversible” combined with his OMT bond-buying pledge is keeping a lid on the situation for the moment, but the pressure is building up and the situation could spill over if Italy is forced to hold another set of messy elections, which would hamper the country’s fiscal reform efforts.
The Pound’s gains against the Euro were also influenced by a wider trend of risk aversion in relation to the messy political scenario playing out in America. As Democrats and Republicans argue over government spending, the political deadlock is carrying US congress closer and closer to the first government shutdown for 17 years. If a budget is not agreed upon by Tuesday then around 700,000 government employees will be sent home without pay, which some analysts estimate could shave off as much as 1.4% of US GDP.
With political farce stealing the headlines in both the US and the Eurozone, the Pound is performing admirably well on the currency markets so far this week. To compliment its 9-month highs against the Euro, Sterling also posted a 9-month high of 1.6164 against the US Dollar earlier this morning.
If further political flare-ups are witnessed in either Italy or the US, it is likely that Sterling could challenge rates in the region of 1.2000 against the Euro and 1.6200 against the US Dollar.
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