LONDON (Reuters) – Sterling recovered from its lowest level against the dollar since March 2020 on Wednesday, but the reprieve could prove temporary with slowing UK economic growth and a potential trade conflict with the European Union weighing on the currency.

Britain’s growth prospects are seen among the weakest for rich countries in 2023, and there is uncertainty over how fast the Bank of England – which is expected to raise interest rates again on Thursday – can tighten policy this year to tame inflation without further hurting the economy.

The pound, which plunged below $1.20 on Tuesday for the first time since the COVID-19 crash in March 2020, bounced back 0.75% to 1.2086.

“There is little bit of bargain hunting but I suspect the market is still short on the pound,” said Jane Foley, head of forex strategy at Rabobank, adding the currency’s rebound was likely to be temporary.

“I think the headwinds are still there,” she added, noting the fresh trading row with Brussels and a potential new independence referendum in Scotland were likely to add to the market’s worries about UK growth and investments.

Britain’s economy unexpectedly shrank in April after contracting 0.1% in March, the first back-to-back declines since the early days of the pandemic in March and April of 2020.

Reacting to the British government’s plans to override post-Brexit trade rules for Northern Ireland, the European Commission on Wednesday launched two new legal proceedings against London and resumed another challenge it had previously paused.

Versus the euro, the pound was flat at 86.86 pence, close to its lowest level against the single currency since May last year after the announcement of an emergency meeting at the European Central Bank boosted the euro.

Investors are also focused on the Federal Reserve’s policy meeting later on Wednesday, for which markets are pricing in an 87% chance of a 75 basis point interest rate hike as policymakers try to rein in rampant inflation.

(Reporting by Julien Ponthus; Editing by Mark Potter)