UK currency is one of the worst performers of any G10 country so far this year amid a weakening domestic economy and anxiety over Britain’s place in the EU
The pound could face sustained pressure on the foreign exchange markets, experts warned on Wednesday, as David Cameron pledged to hold a referendum on Britain’s membership of the EU against the backdrop of a weak UK economy.
Sterling had dipped to its lowest level against the dollar in nearly five months as Cameron spoke, although it bounced a little afterwards following the publication of data showing a fall in unemployment in the three months to December.
But by setting out the case for Britain to remain in the 27-member union, the prime minister gave a small comfort to investors who have been selling out of sterling since the start of year and have made the UK currency one of the worst performers of any G10 country so far this year.
Ross Walker, UK economist at Royal Bank of Scotland, warned that sterling was facing an “amber warning light” after a 3.45% decline against the euro and 2.5% fall against the dollar in the first three weeks of the year.
Jane Foley, senior currency strategist at Rabobank, said: “The moves we’ve seen this year have been worthy of a lot of raised eyebrows. For sterling these are big moves.”
Foley said Cameron “will have reassured the international business community about Britain’s trade links with its main trading partners and will have reduced fears that the UK is on a course towards international isolation”.
The publication on Friday of GDP data for the fourth quarter of 2012 will set the tone for sterling amid expectations that the economy will have contracted in the last three months of the year following a near 1% rise in the third quarter.
While sterling gained ground against other currencies in 2012 as it was perceived to be a relative safe haven from the crisis in the eurozone, Walker said this consensus was “fraying a bit”.
“We are seeing downward pressure on sterling. But are we in a currency crisis? No. It’s an amber warning light,” he said.
The restoration of calm in the eurozone where periphery countries have returned to the bond markets of late – including Portugal – has enticed investors back into the euro, which in turn has weakened sterling. Foley believes this means that sterling is now “exposed … to the full brunt of the UK fundamentals”.
Jeremy Cook, chief economist at World First, a foreign exchange company, said that talk of “currency wars” – a phrase coined by Brazilian finance minister Guido Mantega in 2010 – had now resurfaced since Japan announced steps this week to weaken its currency by buying up its own debt.
Jens Weidmann, president of the Bundesbank, on Tuesday warned that it could spark a new wave of devaluations of currencies as countries took steps to try to help their exporters. In a speech on Tuesday Bank of England governor Sir Mervyn King also referred to “currency wars” as countries take efforts to close their trade deficits. The outgoing Bank of England governor also pointed out that the 25% fall in sterling since late 2007 and the beginning of 2009 had closed the gap between exports and imports in real terms from around 3.5% of GDP to around 1.5%.
Economists believe that policymakers in the UK are still talking down sterling but that getting the slide to happen without undue haste was crucial. If sterling keeps falling at its current pace then Cook predicts a “slow crisis”. But a sudden fall of 5% or 6% from current levels of $1.5860 and €1.19 (to $1.49 and €1.11) could be a cause for alarm. A currency price of €1.19 is the equivalent to around 84p to the euro.
Walker at RBS said that while sterling was trading 10 cents either side of $1.60 it was trading at justifiable levels. But sterling has a long way to move if it is to return to pre-banking crisis levels, when it traded at $2 and €1.30 respectively.