©Yui Mok/PA Archive/PA Images
If you’re going to Egypt or Turkey for your holiday this year, count yourself special. These are about the only major countries whose currencies have fallen against Sterling since last year’s Brexit referendum. The good news, such as it is, is that since the heavy fall in Sterling last summer things have calmed down. It has traded relatively quietly against the US dollar in a band of about $1.20-1.27, and fluctuated against the Euro in a range of roughly €1.14-1.17.
But as the timetable for, and content of, negotiations between the UK and the EU27 become clearer, Sterling’s sensitivity is likely to again come to the fore. If recent speculation about the prime minister’s willingness to compromise and accept an orderly Brexit via a lengthy transition arrangement were to prove right, Sterling might not behave too badly. It could even rise a bit. In the case of a hard Brexit, however, there could be real trouble.
Remember how Sterling plunged after last year’s referendum? Brexiteers, including a handful of economists, maintained that there was no reason for concern. They argued that Sterling had been overvalued before and that, by becoming more competitive, it would deliver a positive shock to the economy much as it did after tumbling out of the Exchange Rate Mechanism (ERM) in 1992.
This analogy does not quite hold, though, and there is a more relevant way to think about Sterling’s performance. Its recent plunge happened for a specific reason: the referendum result (if not Brexit, which hasn’t actually happened yet). Brexiteers claim that the UK balance of payments deficit, which ran at over 5 per cent of GDP until very recently, would have called for depreciation at some stage. This is true, but there were no signs that financing the deficit was a problem before June 2016. We also know that Sterling’s behaviour in the run-up to the referendum was correlated positively and strongly with opinion poll sentiment.
Further, we must not overlook the fact that Sterling’s 28 per cent fall against the US dollar has been one of the biggest since the collapse of the Bretton Woods system in 1972. Then, it fell by 37 per cent. From then until the referendum, there were then three major Sterling slumps, each punctuated by periods of appreciation, albeit on a long-term downtrend. The all-time low of…
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