Sterling staged a minor rally this week, driven by speculation about a Corbyn-led government of national unity (GNU). That’s one sentence I never thought I would write. GNUs are latest in a series of bizarre ideas from the dwindling, incoherent, disorganised rabble that make up what’s left of Britain’s Remain campaigners. Brexiteers give us unicorns, Remainers give us GNUs.
Currencies are perhaps the most unforecastable of financial markets. Things like interest rates and growth differentials sometimes work, statistically, as good predictors but as often do not. Over the very long term there is often a link between exchange rates and the relative "strength" of an economy. Germany had a strong deutschemark for decades, roughly corresponding to its well-managed, robust economy. Sterling tended to fall for decades right up until the United Kingdom joined the European Economic Community, a drop that coincided with the long-term relative decline of the British economy. The words sterling and crisis were often seen to be a natural pair.
Currencies often elicit irrationality from politicians. Readers of a certain vintage will remember how our own economic establishment fought so bitterly against devaluation in the early 1990s, something that was both inevitable and desirable. To regard the exchange rate as a symbol of national virility is to miss the point: it is a marker, over time, of how much economic potency you have. The exchange rate tells you how much viagra, of the economic kind, you need.
Some days Donald Trump seems to understand this when he welcomes a stronger dollar. But he suddenly flips when he berates the Federal Reserve for supposedly creating a too strong dollar via higher interest rates. He can discern the benefits of a weaker dollar but doesn't like what that might say about the US economy.
Past as a guide
That trend decline in the UK’s exchange rate began in the 1930s. The fact that it stopped when Britain joined the common market is one worth bearing in mind given what is about to happen next. If the past is any guide to the future there will be lots of ups and downs but that trend will resume. It probably already has.
Interest in how the single market came about – how Margaret Thatcher was the key driver – is mostly confined to economic historians. In the 1980s when single market planning began, economists, particularly those in stockbroking and investment banks, became very excited. They could see exactly what it could mean for the UK economy, why the Conservative government was so aggressively pushing it. And they were right: Britain did take full advantage of the opportunities that European economic integration offered.
Expert opinion no longer counts for much, particularly when so many short-term forecasts inevitably go awry. But more attention should be paid to those long-term trends which are more easily discerned.
It’s a bit like weather and climate forecasting. We may not have much idea about what the economy will do over the next year or so but we do have the tools to make reasonably accurate assessments over longer time horizons. In one respect it’s very simple: just as entry into the EEC in 1973 and full participation in the Single Market, at the end of 1992, brought tangible economic benefits, so at least some of these will disappear when these processes are reversed.
How bad?
Just how bad it will be is a matter of guesswork. There are so many other factors to consider. Not least of these will be the political background. There, the omens are obviously poor. A general election is imminent. One prominent Tory MP this week tweeted enthusiastically about a post-election purging of the Conservative party's Remainers. Whether this language is Orwellian, Stalinist or Maoist is a matter of taste. It is certainly both sinister and astonishing coming from the party that stands – or stood – above all else against both the theory and practice of revolution.
In that very unpredictable short term, much depends what, if anything, Boris Johnson is up to. Opinion ranges from there being no plan at all to a strategy relying on a belief that Europe will throw Ireland under a bus at the last minute. Buses have figured prominently throughout this whole farrago.
All of this carries the label "political uncertainty". In similar vein we have Trump's trade war with China. Both are having similar effects: manufacturing, particularly of the export variety, is weak. And companies on both sides of the Atlantic are sitting things out via postponement or cancellation of capital spending. Investment is not what it should be. That, in part, is the flip side of all the headlines this week about bond yields. If nobody is spending, the money has to go somewhere.
Is it an exaggeration, sensationalist even, to speculate that Britain could become a "failed state"? Raphael Hogarth, a respected commentator, recently suggested that this would indeed happen should Johnson ignore a failed vote of no confidence and use the fixed term parliament Act to ignore parliament.
Sterling doesn't have the comfort of the dollar's reserve status. Nor the resilience of the US economy. Hard Brexit on October 31st won't be the end, merely the start of an even more chaotic phase. With very predictable long-term consequences. Especially for sterling.
