Author: Hailey Jackson
Early Monday morning, September 26, 2022, the British pound fell below $1.04, reaching a record low against the dollar.
At the same time, after Finance Minister Kwasi Kwarteng’s “mini-budget” on Friday, the U.K. 10-year gilt rate increased to its highest level since 2008.
The Current Situation in the Market
Former U.K. Treasury minister and a former head of Goldman Sachs Asset Management Jim O’Neill announced to avoid seeing the pound’s decline as a sign of a strong dollar. He said that this is a result of a highly unsafe budget by the current chancellor.
A return to “trickle-down economics” was highlighted in the presentation on Friday, along with a scale of tax cuts that have not been seen in Britain since 1972. Leaders including Margaret Thatcher and Ronald Reagan promoted this type of economy.
Currency Instability
According to Vasileios Gkionakis, director of European F.X. strategy at Citi, significant fiscal stimulus and tax cuts caused the market’s “erosion of trust” in the United Kingdom.
He remarked that the government has no evidence that this fiscal policy expansion will stimulate economic development. Vasileios also claimed that the chances of a last-minute rate increase by the Bank of England were on the rise.
British Pound Touches Record Low
Earlier this week, experts discussed the potential of further accelerating the Bank of England’s monetary policy. According to Roukaya Ibrahim, vice president of BCA Research, “The BoE will have to tighten policy more forcefully to counteract the increased price pressures arising from the fiscal stimulus measures.”
The pound’s decline shows that market players are uncertain that foreign investors would be prepared to fund the deficit in light of the weak domestic economy, even though higher bond rates help the currency.
As a result of the “unfavorable policy mix”, soon, this would suggest further hardship for the U.K. financial markets.
What to Expect
Barclays Chief U.K. Economist Fabrice Montagne claimed that the size of the tax cuts and the lack of compensating income or expenditure measures were the main causes of the market decline.
As a result, this drew criticism about the nation’s budgetary strategy and policy.
The British lender supposes the government will explain its intentions to balance the budget through “spending cutbacks and reform results” before the November budget announcement. They suggested it may assist in relieving any immediate worries about substantial unfunded tax cuts.
Barclays forecasts that the government will launch an energy-saving campaign to facilitate demand destruction over the coming month. All in all, financial rebalancing and saving energy should help to keep both internal and external imbalances under control.
Conclusion
The British pound has hit its lowest level against the U.S. dollar since 1985. Investors around the globe have been hit by the recent tax changes. Most likely, the government will not change course at this stage. Instead of retreating, it will move forward by accelerating structural changes and evaluating current market worries.