Central bank activism: The EU and UK at a fork in the road

When it comes to the relationship between Europe and Britain – uniformity isn’t a word that currently springs to mind. And that’s not just a reference to Brexit. Whilst the Europe and Britain do find themselves in the midst of a political break-up – their monetary policies are also showing signs of divergence.

The European Central Bank (ECB), which has been pursuing a period of quantitative easing (QE) in an effort to combat low growth, unemployment and the burgeoning threat of deflation, is expected to announce, or at least signal, the end of its mass bond-buying programme this August at the annual Jackson Hole meeting. Such a mass scale back of quantitative easing hasn’t been seen before, and it’s not known exactly how the market will react. One thing you can be sure of though is that the euro will take a hit at first.

While the EU has pursued a monetary policy aimed at stimulating growth, the UK has, up until recently, enjoyed a period of sustained growth. However, with a weakened sterling, this is no longer the case. While inflation is fluctuating it is still above the Bank of England’s (BOE’s) target. And while it has been made clear that monetary policy will remain the same – debate continues to rage as to whether it should be changed as levels of unsecured consumer debt soar.

Volatility is the new normal

For accountants, treasurers and financial officers responsible for budgeting and forecasting, uncertainty is clearly still the order of the day, especially if Jackson Hole doesn’t shine the light it is expected to. And all of this is starting to affect British and European corporates. In fact, according to a recent Deloitte CFO survey, confidence among CFO’s across Europe is down and in the UK, the prospect of higher interest rates and a general tightening of monetary conditions is the third biggest risk to finance teams.

In this environment, accountants need to ensure that they have reliable data in place for exchange rates – rates that are accurate every single day. Why? Because the actions of a central bank, the economic calendar and black swan events don’t just affect a currency once. The effects can be felt after weeks. Take the recent comments from Mario Draghi who stated that the European Central Bank will discuss changing monetary policy in “autumn”. This alone caused the euro to rise above $1.157 against the US dollar despite falling to almost $1.148 before the news.

Volatility is the new normal, and in this environment accurate data is king. In order for finance team to forecast properly, have a grip on cash flow and budget accordingly, reliable data is essential – if not critical. Today, accountants need not worry about sourcing these rates either, as exchange rate application programming interfaces (APIs) can be integrated directly into existing architecture and delivered via an automated feed. Reliable rates are just as important for the group treasurer too in order for them to hedge correctly and make the best investment decisions. This is where historical data and analysis comes in. While a roll back of qualitative easing at this scale is somewhat of a new phenomenon, firms can still use historical data and analysis to make educated guesses and plan accordingly.

Data is king

Possessing accurate, timely rates is crucial, but firms need to also be aware that there are two exchange rates to choose from. There are market rates, which as the name suggest are determined by market forces. Then, there are the central bank rates, which also account for market activity (alongside other factors) but are published independently. Both have their merits and finance teams will have to utilise both for different situations. Central Bank rates should be used in financial reporting, especially when a central bank has unique regulations, but to understand a firm’s risk, price actual cross-border transactions a true market price is required. For global corporates, an automated source that provides both sets of rates are best.

Ultimately, there’s still a lot of uncertainty and corporates and markets alike will be keeping a very keen eye on Jackson Hole. You can bet your bottom dollar that any quote from the event will send the euro one way or the other and accountants and treasurers, therefore, need to keep one step ahead and embrace data to make the best decisions for their firms.

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