Pound rallies as Rishi Sunak to be named the next prime minister
The pound (GBPUSD=X) gained on the dollar as Rishi Sunak is set to be become the next prime minister of the UK after winning the Conservative Party race.
The pound rallied as much as 0.4% to $1.13 on Monday as markets banked on Sunak to fix the UK’s finances following Liz Truss’s mini-budget.
The value is higher than at most points over the last 10 days and follows a Friday plunge following initial reports that Boris Johnson would return from his holidays in the Caribbean to run for the Tory leadership.
“A Sunak-led government seems more welcome for stability,” said Mahjabeen Zaman, head of FX research at Australia & New Zealand Banking Group.
“While the risk premium in FX from the original budget has been reduced by the U-turn, the pound still faces ongoing challenges.”
The possibility of Johnson running for Number 10 again sent the pound tumbling on Friday, sliding 1.16% to 1.110 against the US dollar, its lowest level that week.
"He had threatened to cause fresh political instability, given that it’s less than two months since he left the job, so his retreat from the race brought a sigh of relief for sterling and an even bigger sigh of relief on the bond markets," Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown, said.
Read more: FTSE 100 lower as Conservative leadership race heats up
With Johnson pulling out of the race, and Penny Mordaunt unable to to get the backing of 100 MPs — the minimum requirement for nomination — Sunak has become Tory leader and will be named prime minister this week.
“It was set up to be another key week for the pound with the prospect of another Conservative party leadership contest however the unexpected decision of Boris Johnson not to declare his candidacy for the contest appears to have simplified the outcome, given the number of MPs who have already declared their support for Rishi Sunak,” Michael Hewson, chief market analyst at CMC Markets, said.
Johnson, who claimed he had the support of 102 MPs, although only 57 MPs publicly backed him, dropped out after saying he would be unable to unite his party.
Last month, sterling plunged to a record low against the dollar and government borrowing costs jumped in the aftermath of Truss’s mini-budget.
Investors were spooked after the government promised major tax cuts without explaining how they would be paid for.
"Rishi Sunak is seen to possess the credibility markets require following a period of violent volatility in UK assets. Unlike his predecessor, Liz Truss, Sunak is not promoting unconventional fiscal policies aimed at widening the deficit and creating further inflationary pressures," Piero Cingari, market specialist at Capital.com, said.
"In the short term, the appointment of Rishi Sunak as the UK’s next PM may lessen some of the pressure and volatility in the gilt market but fundamental issues remain for the medium term. The Bank of England (BoE) still faces a tricky balancing act — on the one hand, the BoE still needs to raise rates materially from here especially as inflation is likely to climb further. This might continue to exert upward pressure on gilt yields. On the other hand a rising rate environment might increase the the prospect of a recession, declining real incomes and softening demand in the economy—all of which will likely add further pressure on the pound."
UK borrowing costs came down after news that Johnson would not enter the race, with a drop in UK 10-year gilt yields to around 3.8%.
Read more: New prime minister could delay Jeremy Hunt’s 31 October budget announcement
"It’s an indication that bond vigilantes have been pacified by the expectations of a calmer political horizon ahead with fiscal responsibility forecast to be the new mantra of the incoming prime minister," Streeter said.
"Whoever clinches the leadership, faces a daunting task given the looming recession, volatile energy prices, continued supply chain tangles and labour shortfalls and a Bank of England determined to raise interest rates in the face of a shuddering economy to bring rampant inflation under control," she added.
Mordaunt dropping out of the race, after failing to secure the backing of 100 MPs, made Sunak leader of the Conservative party without the need for a vote.
“Investors clearly hope Sunak will stabilise the economy and the political situation — though it’s hard to work out at this point which is the harder task.
“As well as the recovery in sterling and the reduced cost of government borrowing, Sunak will be pleased to see European gas prices going in the right direction thanks to mild temperatures across the continent. And while the outlook is still filled with dark clouds, for the first time in a while it is possible to spy a chink of light," AJ Bell financial analyst, Danni Hewson, said.
Shevaun Haviland, director general of the British Chambers of Commerce said: “The political and economic uncertainty of the past few months has been hugely damaging to British business confidence and must now come to an end.
“The new prime minister must be a steady hand on the tiller to see the economy through the challenging conditions ahead.
“This means setting out fully costed plans to deal with the big issues facing businesses; soaring energy bills, labour shortages, spiralling inflation, and climbing interest rates.
“We cannot afford to see any more flip-flopping on policies, the UK’s businesses need a sustainable, long-term economic plan they can believe in.”
Read more: FTSE 100 up as Rishi Sunak set to be first British Asian prime minister
John Dickie, chief executive, BusinessLDN, said: “The new prime minister’s central priority must be to restore the UK’s reputation as a sound place to invest after weeks of unrealistic policies, u-turns and confusion. Businesses are desperate for stability from government ahead of a challenging winter.
“The Chancellor has difficult tax and spend decisions to take to restore market confidence. There are however some low cost or cost-neutral reforms which would strongly support growth. These include bringing back VAT-free shopping for international visitors; reforming the Apprenticeship Levy, and allowing City-mayors to consolidate their funding streams so they can spend on what will best drive growth locally.
“The capital has a powerful role in growing the UK economy, and we look forward to working with the new government to strengthen London’s competitiveness to benefit the whole country.”
Tom Douie, CEO and founder of PM Alpha, commented: "Sunak is the only viable option (how Johnson could have led during the investigation of the privileges committee is beyond me, but happily everyone came to their senses in time)."
"It remains to be seen what policies he announces, but based on his initial leadership campaign, it will be fiscal prudence first and a longer term growth/tax-reduction plan."