There are reports all over the printed and broadcast media about the pound falling to its lowest level against the dollar since 1985, in the wake of Liz Truss’ appointment as prime minister. But global currencies are in turmoil.
In reality Sterling, which has been slipping for some time, took a huge hit with the EU referendum result and never really recovered much ground from that. Right now, it has effectively fallen to a new 37-year-low as UK investors baulked at the prospect of colossal borrowing to fund a new energy bills package.
The pound fell to as low as 1.1403 dollars today, beating the trough of 1.1412 seen at the start of the Covid crisis in March 2020.
However, Britain is not the only country where currencies are taking a good battering. The widening chasm in interest rate policies around the world has kicked off uncertainty in Asian currency markets. The Japanese yen plunged to its lowest level in 24 years. This was because hedge funds in Europe and the US continued their strong predictive bets that the Bank of Japan’s ultra-loose monetary policy would continue.
The Yen plunged to ¥144 against the dollar, its weakest level since August 1998. So far, it is down 20 per cent in value this year despite a shift in tone from the Japanese government, which threatened to intervene if the currency’s value fell further. Interestingly, all of this may have even been made worse by the Japanese government’s decision to lift Covid travel restrictions. What this did was to see large sums of Yen outflows as a result of Japanese tourists visiting other countries.
Generally speaking, there are two tension strings being pulled here. First, the USD is the global currency reserve – if the greenback strengthens, other currencies may well fall if they are not pegged against it. The other is if America’s outlook is better than your country – guess what happens to your country’s currency!
In this environment of turmoil, the worsening economic outlook for the US economy has seen Federal Reserve officials continue to harp on about multiple aggressive rate rises in the US in months to come. Investors looking for safe havens will look to parking money in the USD if A) there’s a possibility interest rates will rise and B) it is a hedge against your own falling currency.
South Korea is in the same boat as Japan. Its currency fell for a fifth consecutive session to hit its weakest level since the global financial crisis. The cause here was a combination of the US Federal Reserve’s aggressive monetary tightening and South Korea’s ballooning trade deficits.
Then there are the European Central Bank’s rate-setting expectations this week. Its governing council will decide how much to tighten monetary policy for the eurozone. The expectation is a 0.75 percentage point hike equalling the highest increase in the central bank’s 24-year life.
The Euro also fell to parity with the USD last week and has slipped below that benchmark for the first time in 20 years. Many analysts don’t expect even this aggressive move to make much difference to given that inflation right now is not in their control anyway.
According to FT economics editor Chris Giles – interest rates will take a new twist in the UK as new prime minister Liz Truss is seemingly up for a policy clash with the Bank of England’s monetary policy committee.
Analysts are speculating that plans by Truss for a freeze in energy bills for households and businesses will more than likely push the central bank to raise interest rates despite the fact that such action should bring down the inflation rate.
Truss is taking a huge gamble with the British economy. If her plans fail, the economy will not get the boost she promises, national debt will continue to rise and investor confidence will flatline – pushing up interest rates and dampening economic activity even further. In addition, any firepower the treasury had left after the financial crisis and pandemic will have vapourised. Global currencies may well continue to be volatile but Sterling needs to gain some ground in order to beat yet more inflation. One not-so-great upside to inflation though is that inflation dilutes national debt (as it does with all fixed debt) just as it did after WW2 – when the UK emerged from that conflict with an eyewatering debt level of 250 per cent of GDP.