Cheap Sterling Has Reasons to Be Cheaper

(Bloomberg Opinion) -- Sterling is trading at its lowest level against the dollar since 1985. It is at a record low against the Swiss Franc. The drivers of the pound’s newfound and sudden decline are substantial.

The currency fleetingly enjoyed some upward momentum after December’s decisive U.K. general election. Traders upped their exposure expecting a rally in the wake of this month’s budget. Those positions are doubtless being unwound.

Of course, the drop is partly the flipside of dollars being in demand. The pound does not benefit from safe-haven status like the Swiss franc or Japanese yen. The U.K. economy is heavily weighted towards the service sector and the coronavirus pandemic could lead to a 10% fall in gross domestic product in the second quarter, according to economists at Jefferies.

The Bank of England is also expected to cut interest rates down to 0.1% and restart quantitative easing via a potential 100 billion pounds ($118 billion) bond-buying program, according to economists at Royal Bank of Canada. This likely extra stimulus relative to what other central banks are doing further weighs on the British currency by reducing its attractiveness.

With the additional 350 billion pounds of measures announced by the government on Tuesday, and a promise of more, there is clearly sizeable economic support on the way for British business. The U.K. policy response has been large and well coordinated. But until there is hard evidence the virus is abating there will be no concomitant consumer growth rebound which would help reverse sterling’s fall.

In the background, Brexit uncertainty still looms. An extension to the transition period which ends this year would surely help the pound. For now Prime Minister Boris Johnson’s government appears resistant to its core agenda getting blown off course.

There are signs that the cost of securing dollar funding is easing, as currency swap lines provided by the six major central banks, alongside separate action by the U.S. Federal Reserve, floods the market with in-demand greenbacks. If so, some of the impact on sterling could soften.

But for now, the forces pushing a cheap currency cheaper are raging.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.

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