Now that Boris Johnson has stepped down from his position as UK prime minister, all focus will turn to his replacement. Investors will be watching how this unfolds in the coming days.
The resignation brought some light relief to the pound (GBPUSD=X) on Thursday, which had been tumbling against the dollar and euro on the back of recession fears, while the FTSE (^FTSE) managed to climb after a recent sell-off.
“News of Boris Johnson’s resignation may spell some good news for FX markets,” Giles Coghlan, chief analyst at HYCM, said. "Although there have been no structural changes to the UK economic backdrop to date, markets have seen the pound strengthen against the euro and the dollar, with gains for UK stocks.
“This is likely to be based on the assumption that Johnson’s replacement may restore Conservative party unity and provide the economy with a much-needed fiscal uplift.”
As often said by economists, markets hate uncertainty, so now that the question about whether or not Boris will resign has been answered, traders will have to deal with the question of who is coming next.
“Getting the economy growing again has got to be the number one focus for all politicians.” Tony Danker, CBI director-general, said on the back of the news.
Former chancellor Rishi Sunak, Ben Wallace and Penny Mordaunt have been named as some of the front-runners at the moment, but a clear replacement still remains uncertain.
Coghlan added: “Although a replacement for Boris can be mildly positive for the GBP in the short-term, depending on who it is, the longer-term picture may be different.
“In terms of significant GBP moves, the main risk for substantial GBP falls would come from the prospect of a general election. If markets sense that a general election may be coming, this could send the GBP sharply lower on uncertainty.”
The crisis at Number 10 comes as the UK is suffering from a cost of living squeeze and soaring inflation, as well as the ongoing war in Ukraine. The coming leader will need to provide effective leadership with the current bleak economic picture.
In addition to this, the trading relationship with the EU is still tainted with difficulty given the bill to amend the Northern Ireland protocol.
The current circumstance also creates the space for new chancellor Nadhim Zahawi to potentially bring forward a budget or fiscal statement to set out his policy vision.
The Bank of England will also factor the current political instability into its decision-making, however, it is unlikely to change its tactics to bring inflation under control, given that the current situation is unlikely to lead to a public vote at the moment.
Watch: How does inflation affect interest rates?
Paul Dales, chief UK economist at Capital Economics, added that the PM’s departure may mean fiscal policy has to be a bit looser and monetary policy has to be a bit tighter.
“Those implications largely depend on the winner and their attitude towards Brexit and fiscal policy.
“Someone leaning more to the right, like Liz Truss and to a lesser extent Penny Mordaunt, may be more inclined to play hardball in the negotiations over the Brexit Northern Ireland Protocol, which may mean the pound is weaker than otherwise and inflation is higher for longer.
“But someone like Rishi Sunak or Jeremy Hunt, may take a more constructive attitude regarding the Northern Ireland Protocol and relations with the EU. That may mean the pound is stronger than otherwise, thereby easing some of the inflationary pressure.”
He added: “Overall, it’s important not to overstate the economic implications of what is undoubtedly a big political event. And a lot depends on who is the next PM.
“But to the extent it does matter for the economy, the door to looser fiscal policy may have been nudged open. However, that may just mean the Bank of England has to raise interest rates further to offset any resulting boost to inflation.”
Watch: British pound gains after UK Prime Minister Boris Johnson announces resignation