Is a strong pound desirable?

Since the onset of the “great recession” the British pound has been under pressure and against a basket of currencies and has devalued by approximately 25%. The main reasons behind the decline in the pound are the high level of public debt, our extraordinarily low interest rates, quantitative easing policies, the depth of the UK recession and the UK dependence on the financial services sector. With the new Conservative and Liberal coalition mainly focussing on the debt reduction, the pound experienced a strong rally from May till July. However, that rally appears to have fizzled out during August, especially against the US Dollar and Euro. This begs the question: “is a strong pound actually beneficial for the country?”

The main problems with a weak currency can be summarised in one word that all investors abhor: ‘inflation’. The UK is currently experiencing the longest period of above-target inflation since independence was given to the Bank of England in 1997. The fundamental reason is that the pound is currently very weak against other currencies and therefore the goods we import are more expensive. The most influential of these imported goods is oil, as it the backbone of our economy. Fuel is a major cost in production and general cost of running a business; therefore if there is a substantial rise in the cost this will be passed on to the consumers further adding to inflationary pressure. Taking this idea to an individual level; we have all noticed that when we go to petrol pumps we are getting less fuel for our money and the cost of fuel is now a higher proportion of our spending. If the UK populace is spending more on fuel there is less money to spend on other goods and services, so inevitably other sectors suffer. This is true for all imported commodities. The UK imports far exceed the amount we export, therefore generating more upward price pressure.

On the other side, a weak currency is beneficial for our export market, as UK goods will appear cheaper in foreign countries and as a result the demand for the goods increases and sales increase. This concept is called ‘export led recovery’ and this has gradually emerged in the UK over the last 6 – 9 months as export orders have increased. The weak currency also affects the consumption habits of the average consumer; for example, imported goods are now more expensive in supermarkets so people will tend to opt to buy UK manufactured goods as they are cheaper in comparison. Furthermore, people are less willing to travel abroad for their holidays as the currency exchange rate means they have less purchasing power in foreign countries. There was a 14% decline in money spent aboard by UK citizens during 2009, as people preferred a stay at home holiday.

Overall, the risk of inflation massively increasing in the UK is highly unlikely until the levels of employment start to increase and the slack in the economy is utilised. Therefore, it would be advantageous for the British Pound to remain weak, to give full support to economic growth.