Despite reassurances from the government and central bank of interest rates and stable finances, the sterling has fallen below $1.07.
Following the announcement by the Chancellor to have a tax cut budget being funded by borrowed tens of billions of pounds, the sterling’s value has been falling and trading lower than the US dollar.
On Monday, the central Bank and UK Treasury were battling to calm market turmoil and to reassure investors of stable and sustainability of the UK’s public finances following the pound hitting a record low against the dollar. The pound continues to suffer low selling rates as investors are still unsure of how bad the financial situation will get.
Following the first drop of the pound to $1.035, a statement issued by the Bank of England indicated that the central bank would not hold back on “changing interest rates” to keep inflation under control. This initial statement gave investors a bit of hope but when the bank announced that it had no immediate intention of conducting a full assessment of the debt-fuelled economic policy but will only do so during its scheduled meeting to be held in November there was growing concern that also affected trading rates.
An immediate assessment of the BoE may have approved a rate rise to push the pound up, but with this hope dashed the market crisis continues to grow. Before the statement from the BoE the pound was trading at $1.0931 and dropped to another low of $1.07. The government’s bonds remained under heavy selling pressure. On Tuesday’s morning trading the sterling was up by 0.8 per cent at $1.0733 against the dollar in Asia.
In coordinated efforts between Chancellor Kwasi Kwarteng and the BoE, the Chancellor attempted to calm markets by vowing to speed up the development of a new strategy that will see the debt coming under control. Kwarteng promised to set out a new mid-term fiscal plan in the coming year but will also speed up another new strategy on November 23 to set debt on a downward path.
To reassure markets, the Chancellor also announced that markets should expect independent forecasts from the Office for Budget Responsibility on 23 November and a new budget the next spring.
These statements by Kwarteng follow intense talks that he had with Andrew Bailey, the governor of the Bank of England. The talks were made following the new fiscal plan from the Chancellor that has $45bn of tax cuts and huge borrowing rates.
The bank’s statement indicated that it would not “hesitate to change interest rates as necessary to return inflation to the 2 per cent target sustainably in the medium in line with its remit.” The Bank however pointed out that any action on their part will come after a full assessment of how the mini-budget has affected demand and inflation and that this assessment will be done in November during its scheduled meeting.
Economic predictions by the OBR are expected to show a persistent rise in government debt following Kwarteng’s introduction of the largest tax cuts that the UK has not seen since 1972 resulting in a sharp rise in the government’s borrowing costs.
When asked to comment on whether the new fiscal plan by the UK government has raised the likelihood of a global recession and increased economic uncertainty, the president of the Atlanta branch of the US Federal Reserve Raphael Bostic said: “it doesn’t help.”
In a move to show fiscal responsibility, the UK Treasury confirmed that it will stick to the current spending plans of the government that are extending beyond 2024, which is when the next election is expected.
Traders believe they will see higher rates after the BoE meeting in November. Following the bank’s announcement to hold off any action until then, markets were pricing a 1.5 percentage increase with a forecast of 3.75 point increase in November with the bank’s rate expected to reach almost 6% by May.
The last time that trading the pound was this bad was in 2020 following the coronavirus crisis. On Monday, its worst trading day the currency recorded changes of lows and highs of more than 5 per cent. During the morning, the pound traded as low as $1.035 against the dollar indicating a 4.7 per cent loss after Kwarteng had vowed over the weekend to go ahead with his tax cut plan.
Commenting on how the pound is trading on the market, Citigroup’s EMEA head of foreign exchange strategy, Vasileois Gkionakis said that “the UK is now in the midst of a currency crisis.”
In another record low since the early 1990s, Monday was the worst day after the UK government debt went further down following the worst sell-off on Friday. The 10-year gilt plummeted in price pushing yields of about 3.5 per cent to 4.2 per cent with a 0.42 percentage point increase. Two-year yields that the BoE is very sensitive to surged from 3 per cent in August to 4.5 per cent.
Another commentator on the issue, Mansoor Mohiuddin a chief economist at the Bank of Singapore said: “it looks like we’re headed for a spiral that we usually see in emerging market crises, where policymakers struggle to reassert credibility.”
The mini-budget plan by the Chancellor was released last week and has seen a huge fall in the pound and instability of trading markets. Around the world, markets continue to react to the new fiscal policy by Kwarteng with the highest borrowing costs that the pound has not experienced in 20 years.
Market forecasts indicate that the fall of the pound may cause an increase in the price of goods and services imported into the UK. Consumers will likely feel the burden of rising importation prices for food, raw material, and parts that companies will have to bear. With mortgage owners also worried about inflation, lenders may likely increase the interest which will in turn affect the cost of living.
