The economic woes facing new prime minister Liz Truss have been underlined by the pound slipping to a new 37-year-low against the US dollar.
Britain’s currency dropped to as low as $1.1403 on Wednesday, surpassing the trough of $1.1412 seen at the outset of the Covid-19 pandemic in March 2020.
The currency is down more than 15% against the dollar so far this year.
Sterling hit an all-time low of $1.0545 in March 1985, just before the Group of Seven (G7) economies acted to rein in the superdollar of the Reagan era in the so-called Plaza Accord.
Why has the pound fallen so low against the US dollar?
The value of a currency invariably reflects how traders fell about the health of a country’s economy – either for better or worse.
The UK is suffering from a series of factors – most pressingly, soaring energy bills – but the pound’s plunging value against the dollar is also a measure of the relative strength of the American economy, where inflation is easing and strong jobs numbers continue.
Andrew Bailey, governor of the Bank of England, highlighted the strength of the US currency during a Treasury select committee meeting earlier on Wednesday, as he explained to MPs the recent weakness in the pound.
A sustained rally in the US dollar, referred to by traders as the “greenback”, has also seen it hit a 24-year high against the Japanese yen – reflecting how the UK is not in a unique position.
Against the euro, the pound was also down almost 1% on Wednesday, although sterling has held up far better against the euro than versus the dollar. It is down just 3% versus the single currency this year.
Nonetheless, investors are dumping British assets in the face of a bleak economic outlook that incudes the rising risk of a recession. The country’s surging inflation rate is also the highest among G7 powers, with the Bank of England previously predicting inflation could pass 13% in October. Concerns over tax cuts and increased public spending under the new Truss government also add to the uncertainty influencing traders.
Britain has further been hit differently by the energy crisis. While the UK only imports a small percentage of its gas from Russia, it relies more on gas than its European neighbours because it has less nuclear and renewable energy and does not have as much capacity to store gas.
Analysts say the direction of the pound could now be swayed by the economic plans of the new prime minister, with Truss expected to detail her response to energy bills on Thursday, with government borrowing likely to pick up the tab for freezing bills for households and businesses.
The tumbling pound is also a headache for the Bank of England since it increases the cost of imports and can cause more imported inflation. The UK’s central bank meets next week and is expected to hike interest rates by 0.5 or even 0.75 percentage points.
The worst could yet come. Nordea chief analyst Jan von Gerich said: “There could be a recovery in sterling but I wouldn’t catch a falling knife for now.”
What does this mean for Brits?
The immediate impact of the falling pound is being felt by British travellers heading off for their holidays.
This means that travellers to the US – and to a lesser extent, Europe – will find their pound does not go very far, hiking up the cost of everything from accommodation to food.
Other countries use the greenback as the main currency, so even destinations such as Dubai and China are more expensive as their currencies are pegged to the US dollar.
Is it just holidaymakers who will be affected by the pound’s tumble?
All UK consumers stand to be impacted by a sustained plummet in the value of the pound, because it makes it more expensive for retailers and manufacturers to import food, goods and materials.
This means prices will be pushed up for goods and services, sending UK inflation rising even further and hitting Brits hard in the pocket.
Are there any benefits to a falling pound?
A weak pound can prove helpful in a number of ways, by making it cheaper for foreign companies to buy UK goods and boosting exports as a result.
It can also increase foreign investment in the UK, for example in property and in shares.
The FTSE 100 Index on London’s stock market usually rises when the pound falls as it is dominated by internationally-focused firms, which trade largely in US dollars.
A falling pound can also increase tourism to the UK, with overseas travellers looking to make the most of a better exchange rate.
This offers a boost to retailers and other sectors, such as restaurants and leisure attractions.