The pound’s biggest driver isn’t UK politics.

By the OFX team | 9 July 2026 | 6 minute read

The outlook for the British pound is being shaped by much more than political developments in Westminster.

While political uncertainty has unsettled markets, the sterling’s performance is increasingly being determined by events across the Atlantic. A resurgent US dollar, shifting Federal Reserve policy expectations and widening interest rate differentials are influencing GBPUSD. Against this backdrop, UK politics remains important, but it is only one piece of a much larger global currency story.

Political uncertainty weighs on the pound.

With last month’s resignation of Prime Minister and Labor leader, Sir Keir Starmer , it is widely expected (at time of writing) that former Manchester mayor Andy Burnham will replace Mr Starmer as Labor leader. Mr Burnham could become the seventh prime minister of the United Kingdom in 10 years, adding to the instability narrative within Westminster.

Mr Starmer is continuing to serve until a successor is chosen. The leadership nomination process opens on July 9, and the new leader is expected to be in place before Parliament returns in September.

That cannot help but flow into the FX market; and it has.

From early-year highs above US$1.38, the pound was slowly pushed lower by the leadership challenges facing Prime Minister Starmer, following poor local election results and the resultant factional infighting and open revolt by Labour MPs. After Prime Minister Starmer ultimately resigned, the pound fell to levels around US$1.316, before recovering to US$1.336 at time of writing.

Currency traders have been in the position of trying to guess who might become Chancellor of the Exchequer in a Burnham-led government, and what that may imply for fiscal policy changes and leadership transitions. This instability has been compounded by deteriorating UK economic fundamentals, multi-decade highs in gilt yields (UK government borrowing costs).

Mr Burnham has taken pains to mollify the markets, saying he would stick to the Starmer government’s fiscal rules¹ and would not rely on deficit spending², statements that have helped the pound recover some of its lost ground. However, while the message has been that a Burnham-led government would not oversee a dramatic rise in borrowing, some of his advisers have called for exactly that³. Burnham has also argued in the past that the UK needs to move beyond the constraints of orthodox deficit-focused economic policy⁴ and expand the state’s role in industrial strategy, public services and large-scale housebuilding.

Statements like these are why it’s not hard to see why the financial markets want reassurance that a new administration will adhere to strict borrowing and fiscal rules. In the meantime, traders are betting heavily against the pound, with negative positions reaching some of the highest levels ever seen.

Of course, political and economic developments on one side of a currency pair are not the only determinant of where the pair trades; there is another currency involved, indeed, another country, and another set of circumstances. In FX markets, the interest-rate differential is a primary driver of capital flows and exchange rate values.

Interest rates remain a key market driver.

Coming into 2026, the Bank of England (BoE) had just cut rates (in December 2025), from 4% to 3.75%, taking the official rate to the lowest level since February 2023. The bank had been widely expected to cut interest rates twice in 2026, with the first drop predicted to have come in March or April⁵. However, the outbreak of the US war with Iran, and the subsequent increase in fuel prices and inflation, quickly upended this view. Given the increase in fuel prices and inflation stemming from the conflict, many analysts now believe there won’t be any cuts for the rest of the year.

Sustained higher inflation could nudge interest rates higher, but the weakness of the UK’s job market and sluggish economic growth in general means this is not guaranteed. Oil prices have fallen sharply after the US and Iran agreed a deal to end the war, and BoE Governor Andrew Bailey said in mid-June that the recent falls were “encouraging”. However, analysts (and policymakers) largely are stuck in ‘wait-and-see’ mode given the political limbo in Westminster.

The pound’s intertwined relationship with the USD.

On the other side of the interest rate differential, the US Federal Reserve (Fed) – under new Chair Kevin Warsh – looks to have turned to a more cautious approach to interest rates, and that expectation is driving the US Dollar Index (DXY) higher. Late 2025 and early 2026 saw the US dollar on the back foot, with a second round of the Fed easing interest rates to support the labour market and “flows turning decisively away from the US,” as investment bank J.P. Morgan put it⁶. From its January lows around 96.15, a 4-year low, the DXY has risen⁷ to 100.82. Expectations of fewer interest rate hikes by the BoE compared to the US Federal Reserve have helped to put downward pressure on the GBPUSD pair.

Shifting expectations for US interest rates are rippling through global markets. From pricing in two interest rate cuts from the Fed, markets have begun to lean toward pricing in a rate hike by the Fed this year due to growing inflationary pressures⁸. CommBank senior economist and currency strategist, Kristina Clifton says market expectations have swung sharply in recent months – from anticipating interest rate cuts to pricing in potential hikes – as stronger economic data and geopolitical factors reshape the outlook for America. However, cooling US jobs data for June has made the Fed rates call virtually line-ball.
Since the US dollar’s poor start to the year, Meera Chandan, co-head of Global FX Strategy at J.P. Morgan, now believes the macro landscape is “more dollar-positive,” with evidence that the dollar is gaining support from more organic US-specific developments⁹.

“The labor market is showing more signs of demand stabilization after months of softness that weighed heavily on the dollar, and inflation surprises are also starting to challenge expectations of limited pass-through to core” Chandan says. “Meanwhile, US equities are in the midst of a great run, reinvigorating the notion of dollar-positive US exceptionalism via strength in the tech sector.”

What could be ahead for the pound?

This expected strength in the greenback has limited consequences for all of the currency pairs that involve it – and certainly the pound, regardless of what happens in Westminster. For all the excitement, and the new buzzwords that will be coined to describe the fresh approach, whoever emerges as the next UK leader is unlikely to have much freedom of policy movement. That’s because they will inherit an economy in which public debt has risen to about 95% of GDP, the highest level since the early 1960s; government borrowing is already running close to £8B, ahead of official forecasts, year-to-date; and the small growth rebound seen earlier this year is fading.

In that context, a new Prime Minister is unlikely to spark a sustained upward trend for the pound. Overall, J.P. Morgan Global Research looks for modest GBP weakness over the next few quarters, with cable hovering between US$1.31 and US$1.34.

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