British holidaymakers in Europe have this summer been on the receiving end of a sharp dose of Brexit-induced pain. Continued uncertainty over the UK’s future relations with Europe has weighed heavily on the pound, which this week fell to its lowest level against the euro since 2009. The euro is now worth 92p, compared with 70p before the Brexit referendum in June 2016. The pain can be felt with every British order for croissants and cappuccinos.
Sterling’s summer woes are no surprise, given the continuing confusion over Brexit and lack of clarity over precisely what the UK is trying to achieve in its negotiations. Sterling’s peak for the year came in April, when a euro was worth 83p, reflecting market expectations that prime minister Theresa May would be returned with a thumping majority at the June election.
Instead, following a hung parliament, the pound’s weakness has intensified. More muddled economic data have added to the fall. Of course, the weakened pound also partly reflects the turnround in Europe’s economic fortunes.
Whereas a year ago the EU economy was languishing behind the UK’s, now the reverse is true, with the British economy growing at half the rate of the eurozone’s in the second quarter of 2017. With the turmoil of the Donald Trump presidency also weighing on the dollar, the euro has become something of a political haven.
Currency markets are notoriously skittish. But the prospects for any sterling recovery in the near-term look slim. October could be tricky. The Conservative party will hold its annual conference, at which Mrs May’s authority could to be tested. After that, EU leaders will hold a summit in Brussels where they will decide whether to move the Brexit talks from their current focus (the divorce settlement) to the issue that the British want to talk about: the future UK-EU relationship. The May government has been working furiously this week to provide details. But without giving more ground on how much it will pay into the EU budget, it is unlikely the summit will do Britain’s bidding.
If the pound falls to parity with the euro this autumn — something which some traders now think likely — the advocates of Brexit will shrug it off. They argue that a weakened sterling will boost UK exports and offset increases in the import bill.
So far the pound’s fall has proved no panacea for British competitiveness. Some surveys point to an increase in export orders for manufacturing, but this has not been borne out yet by official data. Neither have British consumers switched to buying more British made goods. Instead, they are spending more to get less.
Ultimately, a reduction in the pound’s value reflects investors’ belief that the UK’s terms of trade will suffer after Brexit. Moreover, historically the country has failed to gain from a weaker pound because domestic costs have tended to rise faster than the costs of Britain’s trading partners, eroding the advantage. The UK is a net importer of both food and energy. So a lower value pound will inevitably hit consumers in their pockets if prices rise faster than wages.
Next month will see the 25th anniversary of Black Wednesday, when the pound was shunted ignominiously out of the European exchange rate mechanism. The political fallout from that crisis haunted the Conservative party for a generation.
Sterling’s current woes are not having as poisonous an effect on British politics. Some exporters may ultimately gain, but politicians should not be complacent about the expected fall in living standards.