GBP: 3 reasons to be bearish on the pound next year

The Bank of England surprised the financial markets on Thursday by raising rates when no one expected it to. Sterling rebounded on the news, but the bias for next year remains bearish.

The pound jumped on the news that the BoE has raised the interest rate. This unexpected news took the market by surprise, as the central bank has never hinted at tightening monetary policy on previous occasions.

Yet despite the BoE raising rates before the Fed and well before the ECB, there is little reason to cheer the pound. Here are three factors that could weigh on sterling next year: the UK's economic recovery has lagged behind its peers, exports continue to decline post-Brexit and higher taxes would hurt business confidence.

The UK's economic recovery has lagged behind its peers

The pandemic has taken the focus off Brexit, but the consequences of the messy divorce from the EU are still apparent. Moreover, they will persist for years, if not decades.

A quick comparison of the UK's economic growth with that of a group of comparable countries (Germany, Italy, Spain, the Netherlands, France, Canada, Sweden, South Korea) reveals that the UK's economic growth has lagged since the EU referendum. Moreover, when the pandemic hit, the economic contraction was more severe in the UK, as was the rebound that followed.

Exports continue to fall after Brexit

Another direct consequence of Brexit is the weakness in export activity. In contrast to what has happened in world trade, UK exports have fallen considerably. One danger here is the Northern Ireland Protocol. If the country withdraws from the protocol, there is a significant risk of trade retaliation from the EU.

Higher taxes would damage business confidence

The UK government recently announced an increase in corporation tax from 6% to 25% from April 2023. Although we're in 2021, the trend towards higher taxation is visible and would damage business confidence before implementing the tax increase. As such, investments may be postponed, further affecting economic performance.

Overall, the pandemic has distracted attention from Brexit and its consequences. However, the risks highlighted here exist and are sufficient to trigger weakness in the British pound in 2022.