NEWS
14/12/2018 12:53 GMT | Updated 14/12/2018 12:54 GMT

Why Should I Care About How Brexit Is Affecting The Pound's Exchange Rate?

Experts explain how fluctuations in the pound's value will affect your finances.

It’s impossible to predict what the next Brexit update will be – but one thing you can guarantee is that the pound will get a mention. 

Terrifying screengrabs of currency graphs are often shared on social media, sometimes as Theresa May is speaking, and market experts share gloomy predictions of what’s to come. 

On Friday it was revealed that in one London airport as little as $1.05 is being offered in exchange for £1 and of course, experts are saying the UK’s upcoming exit from the EU is to blame. 

But be honest, how many of us actually know why these changes happen? Few people fully understand how the scary squiggly line really affects what we have in our wallets.

The one thing most of us know is that the value dropping means you get less cash when changing money into other currencies but… well, that’s it.

Allow us to explain the rest (with a lot of help from two experts).

This Is How Currency Prices Work

The rates we see when we want to change cash when we go on holiday are dictated by the foreign exchange.

This is like a stock market but investors and banking groups trade currencies rather than shares. 

They are buying money sort of like holiday-makers do, but it’s “enormous volumes of currency”, explains Dr Christopher Dent, a political economist and professor at Edge Hill University.

“Every day there’s about 3 trillion dollars of these foreign exchange trades taking place in the world and 40 percent of them in London,” he says. 

“There are different purposes for buying and selling currency, but one thing that affects the currency markets is risk and uncertainty.”

Now, you don’t need us to tell you that Brexit is causing a lot of economic uncertainty.

DANIEL SORABJI via Getty Images
Explained: These terrifying charts. 

But First We Need To Talk About Interest Rates

This isn’t off-topic, we promise. Dent describes interest rates – which are controlled by the Bank Of England - as “the price of money”. It’s a bit like having a savings account, where you get interest on the money you have in there.

It’s also the return you get from investing money,” he says. “If the interest rates in the UK are high, people who have cash or financial surpluses to invest get a higher return on assets denominated in pounds.

“If there’s no Brexit deal or a deal which causes the country’s GDP to drop [the amount our economy is worth], the Bank Of England is under pressure to reduce interest rates, that means people looking to invest will get less of a return.

“If there’s less demand to buy pounds, the price then also falls.” Which makes sense - if something is harder to get hold of, you can charge more for it.

But Brexit Hasn’t Officially Happened Yet, So Why Is The Price Fluctuating?

A lot of what happens in the foreign exchange is speculative and a lot of the guessing centres on interest rates predictions.

“If the risk of no deal goes up, you can see the Bank of England predicting our economy and GDP will go down,” Dent says. “The chain of events is: uncertainty and risk of no deal, economy hit, rates of interest fall, return will fall, so they [investors] won’t buy so many pounds.”

It’s so speculative, Dent adds, that traders aren’t just acting on what’s happening in the news - they’re reacting to what other traders are doing too.

“They’re thinking about what other traders are thinking about the pound,” Dent says. “If they think it’s negative and people are selling pounds, then they will do the same.”

This in turn, will make the price lower.

“The trends can last a few minutes or even a few hours,” he adds. “You have good news later on in the day and it goes back up again.”

How Does This Affect You?

The rates you see in the news - and bureau de change - are the ones created by these fluctuations in buying and selling.

So first of all, yes they affect your holiday money. But you probably shouldn’t worry too much, according to Craig Erlam, who works for broker Oanda.

AFP Contributor via Getty Images

“Small moves in the currency happen on a daily basis and generally have minimal impact on people’s lives,” he says. “People may only really notice the difference if they holiday in the same place and realise they have more or less cash in their pocket once they exchange it before travelling.

“It’s the larger moves that people may wish to plan for as this can have a more significant impact but again, this typically depends on the value of the transaction.

“Someone may not really notice the difference when changing a couple of hundred pounds for a weekend away but they certainly will if they’re buying property abroad.”

Ok… What Else?

The second thing it affects is the price of goods.

“The UK trades a lot with the rest of the world so many of the products the public buys are imported from abroad,” Erlam adds. “A weaker currency makes these products more expensive as the seller will price them in euros or dollars, for example, depending on where we’re buying from.

“This covers a variety of products from food to phones or cars so it really does impact the day to day life of everyone.”

But Dent adds there’s a flipside to inflation.

“On the other hand, because it’s weaker, it’s cheaper for foreigners to buy our products,” he says. “Our exports become cheaper… and our imports become more expensive.”

What happens now?

Well, we still have months to go until the UK’s scheduled exit from the EU and until a deal is agreed, we’re facing more uncertainty. This is not good for currency rates.

“Until there is some kind of certainty, the confidence in the pound is going to be shaky,” Dent says.