GBP/EUR Exchange Rate Faces Headwinds from Shift in BoE Expectations and Energy Prices

The Pound to Euro exchange rate has recovered from earlier lows, but remains hampered by a shift in Bank of England rate expectations. Investors are increasingly confident that the European Central Bank will raise rates in September, leaving the relative policy outlook as an important headwind for GBP/EUR.

Energy prices remain a key short-term influence, with European LNG prices close to their highest levels since early 2023. A further increase would intensify stagflation concerns across both the UK and Euro area, particularly in Europe where imported gas costs are a significant concern.

The Bank of England's rate hike expectations have drifted into 2027, with markets now pricing only around 24 basis points of tightening by the December meeting. IG Markets chief market analyst Chris Beauchamp does not expect the Bank of England to tighten this year, citing the potential for higher oil prices and the need for a more cautious approach.

The ECB faces a different backdrop, with markets pricing almost a full 25-basis-point increase for September. Resilient economic data and upside inflation risks could keep further tightening in play, according to MUFG.