Sterling Under Scrutiny as UK Fiscal Plan Takes Shape – Market Eyes EUR/GBP Forecast

The British pound faces a critical juncture as Chancellor Rachel Reeves unveils the government’s fiscal strategy at 12.30 GMT today. Market participants are closely monitoring how the UK intends to address its substantial fiscal deficit, anticipated to reach approximately £30 billion annually following announced spending commitments. The proposed solution involves extending the freeze on income tax thresholds while implementing targeted increases across secondary levies.

Market Pricing and Initial Reactions

Initial assessments suggest the budget framework has been largely anticipated by markets. However, considerable uncertainty persists regarding the timing and distribution of fiscal consolidation measures throughout 2026. The sequencing of tax increases carries particular significance for both monetary policy expectations and currency valuations.

The critical question centres on whether the government will implement £10-15 billion in immediate tax measures. Should these measures materialise with sufficient credibility, the Office for Budget Responsibility’s assessment that such tightening would reduce inflationary pressures becomes highly relevant. This scenario could trigger a dovish repricing of Bank of England rate expectations, subsequently pushing gilt yields lower. Additionally, the mechanical effect of frozen tax brackets ensures UK deficit reduction and declining gilt issuance regardless of budget outcomes.

Political Risk as Underlying Threat

Beneath the surface, political considerations represent a formidable wildcard. Growing pressure on the Chancellor regarding fiscal sustainability could catalyse renewed selling in the gilt market. Investor concerns about a potential successor administration adopting more accommodative borrowing policies would prove detrimental to both fixed income and currency markets.

EUR GBP Forecast: Two Divergent Paths

From a foreign exchange perspective, sterling currently displays no measurable fiscal risk premium when evaluated through EUR/GBP cross movements. Today’s announcements present two contrasting outcomes for the currency pair.

The baseline scenario assumes the budget successfully demonstrates fiscal credibility. Disinflationary fiscal tightening would trigger some yield compression in gilt markets, but the softer rate path implied by such measures creates moderate depreciation pressure on sterling. Under this EUR GBP forecast, the exchange rate could advance toward 0.8800-0.8830 levels as investors reassess rate differentials.

The adverse scenario materialises if market participants reject the sustainability narrative. Uncontrolled selling would engulf both gilt and sterling markets simultaneously, with the EUR GBP forecast deteriorating sharply for the pound.

Volatility Assessment and Technical Context

Overnight implied volatility in EUR/GBP stands at 13.5%, elevated but considerably lower than selective 2023 episodes and substantially beneath the 27% extremes witnessed during the September 2022 Mini-Budget shock. The gap between one-week implied and realised volatility has contracted from 3.0 yesterday to 2.2 this morning, suggesting option markets may be overpricing near-term movement expectations.

This technical backdrop underscores how today’s fiscal announcement will prove pivotal for both pound strength and EUR GBP forecast direction across coming sessions.