Why sterling is going 'to hell in a handbag'
Sterling has hit the skids, sliding to a 22-month low against the dollar, due in part to expectations of UK interest rate falls, low UK growth and a large current account deficit. And it won't stop falling for a while.
European holidays have already become 18% more expensive since last summer. Now shopping in America is becoming less and less of a bargain. Sterling has hit the skids, sliding to an 11-year low on a trade-weighted basis and a 22-month low against the dollar. It has now fallen by almost 7% to around $1.86 since the end of July.
Part of the story is the dollar's broader recovery amid sliding commodity prices and mounting fears over the growth outlook elsewhere. But the Bank of England's gloomy assessment of the economy last week prompted traders to pencil in UK rate cuts sooner than hitherto expected. The focus among global investors is now firmly on growth rather than inflation and "UK growth is falling to pieces", says David Bloom of HSBC. The reduction in the expected gap between American and British interest rates makes the pound less appealing relative to the dollar for global investors seeking high yields.
But "more fundamental forces" are also at work, says Capital Economics. It's been clear for ages that Britain had similar imbalances to America and that sterling thus looked vulnerable to a derating akin to the dollar's. There's a large current-account deficit 3.6% of GDP over the last 12 months worse household debt in relation to disposable income, and an overvalued housing market, which, in contrast to America's, has only just started to plummet. Britain's reliance on financial services also boded ill as the credit crunch kicked in.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
So how far will sterling fall? The sharply-deteriorating economy means sterling is "heading to hell in a handbag", says Bloom, who sees the pound at $1.75 by the end of the year. Trevor Williams of Lloyds TSB sees scope for a fall to $1.50-$1.60 long-term. Near-term losses against the euro may be capped by the fact that the eurozone is also sliding into recession, says Jamie Dunley in The Daily Telegraph. Expect the trade-weighted index to lose "at least another 5%", mostly against the dollar, says Capital Economics. Sterling's adjustment as the economy's imbalances unwind is far from over.
Sign up for MoneyWeek's newsletters
Get the latest financial news, insights and expert analysis from our award-winning MoneyWeek team, to help you understand what really matters when it comes to your finances.
-
How taking a two-year career break could leave a £26k hole in your pension
Career breaks are increasingly common but it is important to take steps to protect your pension, as gaps compound over time
-
Cash in on your attic: Thousands could be sitting dormant in your storage
Selling your valuables at auction could be far more lucrative than you think. We take a look at how auctions work, and some tips to help you maximise your profits