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The GBP/USD pair reflects the DXY's dynamics this week, sharply responding to the US dollar's condition. However, starting on Friday, the pound is likely to reflect the internal agenda amid ongoing political events in the UK.
The fact is that on Thursday, February 26, by-elections are taking place in the Horton and Denton constituency (Manchester) following the resignation of Labour MP Andrew Gwynne.
At first glance, this event seems insignificant for the British currency, and (even more so) for the GBP/USD pair, amid overall geopolitical turbulence. Nevertheless, these elections have become a topic of discussion not only in British politics but also in the currency market. After all, this is not just a local vote, but a "litmus test" for the current UK government led by Keir Starmer.
To start with, the Manchester-Horton and Denton constituency (the "working belt" of Greater Manchester) is traditionally considered the "stronghold" of the Labour Party, as Labour has held leading positions here for almost 100 years. However, the current situation in these by-elections looks like a battle of three forces.
In one corner of the ring is the Labour Party, trying to maintain its mandate amid declining ratings. In the other corner is Nigel Farage's Reform UK Party, which is gaining popularity among the working class by criticizing Downing Street's migration policy. And finally, in the hypothetical third corner is the Green Party, which has unexpectedly surged ahead in polls, attracting youth and the Muslim population dissatisfied with Starmer's stance on foreign policy (particularly regarding Gaza).
Surveys indicate that all three parties are neck-and-neck.
The by-elections are indeed important for the British currency as they have a symbolic, defining nature. If the Labour Party loses in its "bastion" (especially if it finishes third or lower), it will deal a crushing blow to the authority of the current Prime Minister, Keir Starmer.
First, political uncertainty is already a factor putting pressure on the national currency.
Second, such a disgraceful defeat could provoke an intra-party revolt, with a subsequent attempt to replace the leader of the ruling (for now) party. Any risks of governmental paralysis and economic policy uncertainty would weigh on the pound.
Third, large local elections will take place in the UK in May of this year. In this context, Manchester-Horton and Denton act as a sort of "trailer" for what may happen in the spring.
The by-elections serve as a barometer of public sentiment. For instance, if Reform UK wins, it will signal a shift to the right, towards a more radical right agenda. If the Labour Party "hears" this signal, they may tighten their anti-immigration rhetoric and introduce new restrictions on work visas, provoking a labor shortage (which may lead to further staff shortages).
If the Greens win, it will increase pressure on the government regarding environmental issues and social spending, which will also affect long-term budget forecasts.
It is also worth noting that GBP/USD traders have, more or less, "gotten used" to Starmer and Finance Minister Rachel Reeves, who have demonstrated consistency and adherence to fiscal rules after the chaos of Liz Truss's brief tenure (which will be remembered for a long time). Any weakening of their positions is bad news for the British currency, especially since this weakening will likely be accompanied by political turbulence.
Elections lost by the Labour Party could serve as a catalyst for these events.
It is also worth noting that the macroeconomic data released last week did not favor the British currency – inflation is slowing down, and the labor market is cooling. This adds additional pressure on GBP/USD.
I remind you that the overall consumer price index decreased on a monthly basis to -0.5% (a multi-year low), and on a yearly basis to 3.0% (the lowest growth rate since March last year). The core CPI dropped to 3.1% (the lowest level since September 2021). The retail price index, which is used by employers in discussing the "wage issue," decreased to 3.8% from the previous value of 4.2%.
The labor market report also came out in the red zone: the unemployment rate rose to 5.2%, wage growth slowed to 4.2%, and the number of claims for unemployment benefits increased by nearly 28,600 – the highest level since spring 2020.
Thus, the upward dynamics of GBP/USD are solely due to the weakness of the US dollar. The British pound lacks its own sustainable growth drivers. Therefore, price spikes in GBP/USD should be considered as opportunities to open short positions. The nearest target for the downward move is 1.3460 (the lower line of the Bollinger Bands indicator on the four-hour chart).
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