Brexit Pains: The Pound Takes a Serious Pounding

The currency’s 18 percent drop since the vote reflects mounting fears of a hard exit.

Pound Plummets as U.K. Government Wins Brexit Suit

The U.K. currency has become the most prominent victim of the Brexit debate, falling 18 percent against the dollar since the British voted in June to withdraw from the European Union. The pound is the worst performer among major currencies this year.

The reason? Sterling has become the main vehicle with which investors can express their dismay, first at the vote, then at signals by politicians that the government is heading for a so-called hard Brexit, an exit agreement with the EU that puts more emphasis on controlling immigration than on maintaining maximum access to the EU market’s 500 million customers.

U.K. Prime Minister Theresa May’s government has highlighted the increased competitiveness that a weaker exchange rate can provide. Yet the drop in the pound reflects investors’ concern that a scaled-back relationship between the U.K. and its biggest trading partner will ultimately be bad for the British economy. “The biggest issue here is why the pound has fallen,” says Swati Dhingra, a research associate at the Centre for Economic Performance in London. “If it’s because there are bad fundamentals, or we can expect the economy to go into a downturn, or because trade barriers are going to rise—and that seems most likely—then it doesn’t necessarily help the economy.”

The pound’s depreciation is already starting to feed through to everyday life in Britain. Prices for iPhones and Microsoft software have gone up, and a spat over the proposed price hike of a cherished breakfast spread, Marmite, became a national obsession in October. (Its supplier, multinational Unilever, books its revenue in euros but sells its Marmite in pounds.) Inflation rose at an annualized rate of 1 percent in September, and some economists see it reaching 3 percent next year, from virtually zero in 2015. That’s bad news for a country that relies heavily on consumer spending and has seen wage growth stagnate. Brits are also facing some shocks in the cost of their vacations: The pound has lost as much as 19 percent against the five currencies used in their favorite travel spots.

The pressure on Britons’ wallets hasn’t so far dented the popularity of May, who swept to power upon David Cameron’s post-Brexit resignation. According to an October poll by market-research firm Ipsos Mori, 48 percent of voters are satisfied with her job as leader.

David Bloom, global head of currency strategy at HSBC, calls the pound “the de facto official opposition of Brexit”—meaning its drop is doing more to temper the government’s stance on the shape of future relations with the EU than anti-Brexit politicians are. Since the pound has remained at depressed levels, there’s been “a little bit of softening around the hard edges” of the government’s rhetoric supporting the weak pound, he says.

If the currency continues its swoon, the government could find it harder to keep ordinary Britons happy. Prime Minister May might back down on sharp limits for immigration rather than lose trade links with the continent. “A hard Brexit seems to me to be the thing that’s really spooking markets,” says Andrew Goodwin, an economist at Oxford Economics. “If the pound does sell off, that’s going to push up inflation, and that’s potentially going to reduce the popularity of that sort of argument with people.”

The British see a squeeze on their finances coming. In the Ipsos Mori poll, 55 percent of respondents said the devaluation would be a bad thing for the country, and only 14 percent said it would be a good thing. Half of respondents said they expect their standard of living to decline because of Brexit.

Much will depend on the government’s ability to forge new trade deals. One possible bright side of the pound’s fall is its potential to spur the long-sought “rebalancing” of the U.K. economy toward investment and external demand and away from consumption at home. Economists expect the U.K.’s account deficit, now near an historic high, to narrow as exports improve. Yet some are skeptical. “If we’re going to make it harder to trade with our biggest trading partner, it’s going to be very difficult to replace any exports lost to the EU with other countries,” Goodwin says. “The idea of rebalancing is a silver lining amongst some pretty big clouds.”

The bottom line: The British government says the pound’s drop will turn the U.K. into an export dynamo. Others say it heralds economic pain.

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