You have heard the word Brexit many times by now and you will continue to hear it for some time to come as comic debates in the British Parliament make our local Parliament look good. It is this Brexit that makes the IMF, like many other think tanks, say will result in increased uncertainty and a slowdown in investment in the UK and, to a lesser extent, continental Europe. 

The UK growth forecast was downgraded by 0.2% to 1.7% in 2016 and close to a full percentage point for 2017 at 1.3%.

On the contrary, the German investor sentiment and the ECB’s lending surveys released yesterday showed sharp declines in June.

Whenever in the recent past, ECB interest rate decision is announced, and if the central bank seems hawkish about the inflationary pressures and outlook of the economy, the rise in the interest rates is possible, which in turn bullish for the euro, but this time euro zone is facing deflationary pressures.

Another failure to meet market expectations could do more even damage the ECB’s deflation-fighting credentials. But the stakes have been further raised by the recent slowdown in economic growth and the return of negative CPI inflation, headline inflation has dropped to -0.2% in Feb.

Until there is real domestically-generated inflation, it is hard to call EUR sustainably higher. Headline inflation has been dragged down by energy prices but even core inflation is soft (particularly in Spain/other periphery countries). Services inflation appears to have troughed but is yet to trend higher (services are 43.5% of consumption basket and depend more on domestic factors/wage pressures). Eventually, we think EUR recovers but it will be slow. 

Whereas on GBP side, further into 2016, there are two key risks associated with sterling – the UK’s unsustainable current account deficit and the post-Brexit formalities promised for end-2017 at the latest.