G10’s ‘surprise’ currency star could stumble as peers hike interest rates

The British pound has gained 1.6% against the euro, 2.8% against the Swiss franc, 4.9% against the Swedish krona and 1% against the Canadian dollar year to date. It is near-flat against the U.S. dollar and down 1.3% against the Japanese yen. Matthew Ryan, head of market strategy at Ebury, called sterling the “surprise outperformer” among G10 currencies over the past three months, citing an unexpectedly resilient U.K. economy. Gross domestic product grew 0.6% in the first quarter and 0.4% in the second, among the strongest performances across advanced economies. Sunny weather and FIFA World Cup excitement supported consumer spending, while business activity remained resilient despite geopolitical volatility. Sterling also gained support in April, when the Iran conflict fueled expectations of a Bank of England response to inflation. Jane Foley, senior FX strategist at Rabobank, said the U.K.’s vulnerability to higher oil and gas prices had helped push headline inflation close to 3%. The Bank of England, however, has held its key interest rate at 3.75% throughout the year, with markets assigning low odds to a September hike. The European Central Bank is widely expected to raise rates Wednesday, while expectations for a Federal Reserve increase later this month are growing. Diverging monetary policy could pressure sterling because higher rates typically support a currency. Political and fiscal risks are also rising. Prime Minister Keir Starmer’s July 20 resignation left Britain with its seventh leader in 10 years. His successor, Andy Burnham, faces scrutiny over the fiscal rules emphasized by former Finance Minister Rachel Reeves. A clean transition reduced the pound’s political-risk premium, Ryan said, although borrowing costs have risen alongside a global government-bond sell-off. Foley warned that dovish Bank of England messaging on Sept. 17 could expose sterling ahead of Burnham’s Oct. 28 budget. Finance Minister John Healey has pledged fiscal discipline and broader regional growth. JPMorgan economist Allan Monks expects cautious tax and spending changes. Ryan warned of higher ancillary taxes and increased debt issuance, potentially involving property purchases, local councils, a mansion tax, and tighter pension and personal-investment-account relief. Markets may react sharply if the budget weakens growth, pressures the private sector and requires more borrowing.