A weak pound – what it means for the UK

A weak pound, so the popular narrative goes, raises the relative cost of imports for goods priced in another currency and will stoke inflation. It also means that for holidaymakers and business travellers abroad, one will receive smaller exchanges on foreign currency – euros or US dollars for example - when exchanging sterling overseas. By contrast, export-oriented businesses should get a boost from a weak currency, as their goods become cheaper on the international market.

Presently, the recent highs and lows have all played out within a range that sterling has not traded against since 1984.

London Business School’s Professor Richard Portes freshens this perspective in an interview with CNBC, ‘The old UK growth model is dead’: What a long-term weak pound means for Britain’ (CNBC, 7 November, 2022).

Portes notes the UK’s reliance on foreign trade means a “significant” impact on prices from a weaker currency, though he said there was not yet evidence of a significant effect on UK demand for foreign goods, nor was there on exports, which theoretically become more competitive.

He also noted currency depreciation had a level effect on prices rather than being inflationary.

“It’s a one-off effect. It’s not necessarily giving us inflation in terms of a continuous rise in the price level,” he said. “If it contributes to a wage price spiral then that is inflationary, and that’s what we’re all concerned about now. We don’t what to see these price increases which have come about partly because of Ukraine and so on, we don’t want to see wage rises that will trigger price rises and spiral.”

Sterling’s depreciation is a long-term trend since it was allowed to float freely in 1971, he said, telling CNBC: “I think it’s reasonable to expect that to continue. And that’s partly because productivity and therefore competitiveness has not been very good relative to our trading partners. So that’s the long-run situation.”

The UK’s current account deficit (which is where a country is importing more goods and services than it is exporting, and stands at £32.5 billion for Britain) is financed by capital inflows, he noted. Former Bank of England Governor Mark Carney has said the UK is dependent on the “kindness of strangers.” But Portes said “it’s not their kindness, it’s them wanting to invest because they find their projections and possible yields, investors find UK assets sufficiently attractive to bring in capital.”

“If they find it less attractive, UK assets would fall in value to induce people to invest more, so the exchange rate will fall further. That depends on confidence in the British economy, fiscal policy and all those things.”

But, Portes said, the weaker pound is not in itself an issue for the fiscal planning the government is currently doing, with a much-anticipated budget due 17 November, 2022.

“If a lot of our debt were denominated in foreign currencies it would, but it’s not. Our public debt is denominated almost entirely in sterling. And so unlike some countries, we don’t find it a problem. I don’t think the depreciation we’ve seen or that is likely over the next few years will make much difference to fiscal positions.”