Should we worry about a weak pound? We look at the winners and losers from the post-Brexit currency drop.
Immediately after the UK voted to leave the European Union, there was a chaotic and confusing array of knee-jerk economic impacts. Of all of these, sterling’s dramatic fall in value was one of the most documented.
Doom filled the headlines and everyone was talking about the value of the pound as casually and with as much authority as they would discuss the weather. Although sterling has regained some ground against the US dollar, it is still weaker than it was before the referendum. Here’s what we actually mean when we talk about a weak pound, and some of the impacts of having a weak currency.
What is a weak pound?
We value our currency in comparison to the other major world currencies. Generally, sterling is measured against the US dollar and its value is expressed as an amount in dollars. So for example, if £1 is worth $1.60, that is a strong pound. At the time of writing, £1 is worth $1.31 – that’s a pretty weak pound.
What weakened the pound?
There are a number of interlinked factors which caused the value of UK currency to drop but it all starts with investment. When investors from around the world want to put their money into UK assets, they need UK currency. This increased demand for UK currency pushes up its value. That means that anything that makes the UK economy a poorer investment prospect reduces the value of the pound.
The first issue post-Brexit was lack of investor confidence. With foreign individuals and companies unsure of the stability of the UK economy, demand for sterling fell and the value suffered.
The other issue is the potential for further drops in interest rates, guided by the base rate set by the Bank of England. When interest rates are high it encourages investment into the UK by offering a high return. However, it now seems likely that the base rate will be cut further and that it won’t pick up again for several years.
Who’s happy with a weak pound?
UK-based companies that export their goods abroad are happy that £1 is worth less around the world. This is because their foreign customers need less of their own currency to buy UK exports – and these bargain prices make buying UK exports an appealing prospect.
Investors in globally diversified portfolios may also be happy about this if they have holdings in the FTSE 100 and the S&P 500 (US) stock markets, as these are made up of primarily non UK-focused businesses which derive much of their income overseas.
Who’s not so happy?
When UK currency is weak, UK consumers have to pay more for everyday items imported from Europe and elsewhere in the world. The UK is a net importer, meaning we import many more goods than we export, including food, oil and electrical goods. This means the weak pound has an overall negative effect on the UK economy.
UK tourists will also have to pay more for foreign holidays. They will also receive less cash when exchanging sterling for other currencies. For example they might exchange £1,000 today and get $1,310 back whereas in early 2015 they would have got $1,600 back. It’s recently been reported that Bureax de Change at some airports are now offering less than one euro for one pound, although the official exchange rate (excluding commission) is currently €1.16 to the pound.
Foreign workers may be less inclined to take a job in the UK as their wages are worth less in their home countries. This is particularly worrying for UK industries and smaller UK businesses that rely on workers from overseas, such as fruit and vegetable farms. If these companies start losing workers, they may shift their production abroad or increase wages – which would either eat into their profits or result in higher prices for consumers.
Will the pound stay weak?
In these uncertain political and economic times, it’s very hard to know what will happen next. Many financial experts think it’s likely that the value of sterling will fall further but no-one knows for how long. For now, we just have to wait and see – and maybe book a staycation.
Risk warning: As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. Past performance and forecasts are not reliable indicators of future performance.