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Why the pound is falling and how it will affect you

Ed Bowsher
by Lovemoney Staff Ed Bowsher on 29 January 2013  |  Comments 5 comments

2013 will probably be a bad year for the pound. And that will affect pretty much all of us.

Why the pound is falling and how it will affect you

The value of the pound has fallen dramatically this year. If you wanted to exchange £100 into euros today, you’d get roughly 116 euros. But if you had made the transaction on 2nd January, you’d have got around 123 euros. That’s a 5% fall in less than a month.

I fear we’re in the early stages of a ‘currency war’ that could destabilise the world economy.

Causes

So why is a currency war likely?

The trigger has been the economic policy of the new Japanese government.

The new Prime Minister, Shinzo Abe, has made it very clear that he wants higher inflation in Japan and a cheaper yen. And he’s willing to do pretty much whatever it takes to achieve that.

Japan is still the world’s third largest economy, so any such move is bound to trigger problems worldwide. Remember, if the yen falls, Japanese goods will be cheaper in the US and China. And the American and Chinese governments won’t be happy if they think that Japan has gained an unfair advantage.

So we could easily see China and the US taking steps to make sure that their currencies don’t rise against the yen. Hence a currency war.

The pound

Before I go any further, I should say that I don’t think the recent falls in the pound are purely due to what’s going on in Japan. I think there are four other causes:

- Europe is looking a little less sickly, so some investors are now transferring their money out of the UK and into the Eurozone, boosting the value of the euro.

- Mervyn King, the Governor of the Bank of England, hinted in a speech last week that he’d like to see a cheaper pound.

- There are concerns that the UK Government’s credit rating may be downgraded.

- There’s a growing realisation that the UK’s persistent trade deficit isn’t going away and may be getting worse. In other words, we buy more goods and services from abroad than we sell abroad. And we also own fewer foreign assets than we used to. (We’ve had to sell assets to cover the cost of our trade deficit.)

Given these factors, and the early signs of a currency war, I think there’s a strong chance that the pound will fall further this year.

So what will that mean for the likes of you and me?

1. Overseas holidays will become more expensive

If the pound is weaker against the euro, all your euro-based costs will go up. That’s bad news if you fancy a holiday in the likes of France, Spain or Italy this year.

If you’re sure you want to holiday abroad this year, it may be worth buying some foreign currency now so that you don’t get caught out if/when the pound falls further. That’s assuming you can find any spare cash to spend on foreign currency right now.

2. Inflation may go up

A weaker pound should push up the price of imported goods in the UK. So that could lead to higher inflation than would otherwise be the case.

3. Exporters could see more business

Just as the price of imported goods goes up, the price of goods that we export abroad will fall. So if you work for a firm that does a lot of business abroad, your boss may be slightly happier this year as business picks up a bit.

4. A potentially unstable economy

If we do get full global currency war, that could then lead onto a ‘trade war’ if world leaders aren’t careful.

In other words, if governments feel that another country is playing ‘fast and loose’ with its currency, they might impose tariffs or quotas on imported goods. These tariffs might deliver a short-term boost to a particular country’s economy, but history suggests that tariffs aren’t a good idea in the long term.

Reduced trade tends to lead to reduced efficiency and lower growth.

In fairness, I doubt that we will get a full trade war – perhaps naively I think that most politicians and central bankers have learned some lessons from the past.

More than a blip

However, I doubt that the pound’s fall this month will prove to be just a blip. You can never be certain about currencies but I strongly suspect that we’ll see further falls in the pound this year and a fair amount of volatility in the global currency markets.

Yes, a lower pound will benefit exporters, but overall, I’d prefer stable currencies as the background to a steady global recovery. Shame that probably won’t happen.

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Comments (5)

  • russbiker
    Love rating 71
    russbiker said

    Fine if you work for a company that exports, don't buy loads of stuff and don't take foreign holidays.

    Like me, happily!

    Report on 29 January 2013  |  Love thisLove  0 loves
  • Mike10613
    Love rating 632
    Mike10613 said

    Good, perhaps now the people taking the foreign holidays and buying the imported crap and Iphones will suffer a bit. It might make imported gas and oil more expensive, but we need to export and the government can always cut tax on petrol and remove the 5% off the cost of domestic energy. The country is broke, in danger of losing it's triple A rating and is struggling to pay for Cameron and Osborne's new high speed train set. We have to do something and fewer jaunts overseas would be a good start!

    Report on 29 January 2013  |  Love thisLove  0 loves
  • Captain Blognot
    Love rating 9
    Captain Blognot said

    We need to go abroad to get back our sanity. As the saying goes "Britain has two cows and both are mad".

    Report on 29 January 2013  |  Love thisLove  0 loves
  • Arblaster
    Love rating 46
    Arblaster said

    In fairness, I doubt that we will get a full trade war – perhaps naively I think that most politicians and central bankers have learned some lessons from the past.

    Well, there would be a first time for everything.

    I am sorry, Ed, to disagree with you again, albeit only slightly. We are following the same pattern as the 1930s: currency wars, trade wars, world war. Already we have our chickenhawk politicians sending 'military advisers' over to Mali. Next stage, they will be sending troops there. Now, excuse me, but what has Mali got to do with us? When did the Mali government threaten to nuke London? I shall have to look Mali up - see what minerals the country has...

    What worries me is the attitude of economists and journalists: they see GDP lessening, and this is supposed to be a disaster. So they crank up the printing press for another stimulus. Call me an Austrian if you like, but the recession is not the disease: it's the cure.

    Report on 30 January 2013  |  Love thisLove  0 loves
  • yocoxy
    Love rating 154
    yocoxy said

    The most depressing thing about this article is the grumpy, cynical comments to an interesting an informative article.

    I live in the UK but also have a home in Europe with a Euro mortgage, I work for a European company and visit a couple of times a month. I haven't moved to either of these European destinations (in two different countries) because I love England and love living here. I feel that I have the best of both worlds and of course I have an interest in the exchange rate.

    Since I have a property asset valued in Euros and shares in my company that will at some point be sold as a Euro asset, a falling rate indicates a good time to sell to achieve most Sterling. However this makes my Euro mortgage more expensive.

    As with all financial decisions balance is everything..

    Oh and Mike, I don't have an iPhone although I don't think they're "crap" I have a Samsung Galaxy S3 that I'm very happy with. I don't intend to stop travelling or using a smartphone.

    So, get out there, make the most of opportunities and enjoy life? or sit at home writing depressing comments on a message board every day?

    I think I'll stick with my plan.

    Report on 05 February 2013  |  Love thisLove  0 loves

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