When Liz Truss and Kwasi Kwarteng’s tax-cutting mini-budget triggered a UK debt crisis in autumn 2022, the pound plummeted to almost parity with the US dollar. In 2023 the UK has endured weak growth, falling productivity and high inflation, yet the pound has been the strongest performing currency among the G10 leading economies. It is currently trading at almost US$1.31, its highest level since April 2022.
To help understand what’s going on and where the pound goes from here, we spoke to Ganesh Vishwanath-Natraj, assistant professor of finance at the University of Warwick.
Many thought last autumn that the pound would keep falling to dollar parity and below. What changed?
The Bank of England’s interest rate tightening is probably the key factor. Though also the government’s fiscal policy has been more restrained.
Pound v US dollar 2021-3
But interest rates have been tightened in many countries. Why would it have made such a difference in the UK?
If you compare them to the US, for example, the federal funding rate has risen from basically 3% to 5% since last October. The equivalent UK rate has gone up from just over 2% to 5%. Not only has the UK tightened more, the markets expect the Bank of England to keep tightening.
One reason for the stronger pound is that the US dollar has weakened over the same period. This may account for 50% of the change in the pound. Yet the pound has also gained against other currencies like the euro (rising from about €1.08 to €1.17 over the same period). This suggests that the pound’s appreciation is more likely due to UK policies than foreign factors.
