The pound has had a slightly less volatile week. While dipping back below $1.20 on Tuesday, sterling has recovered to just under $1.23 at the time of writing. Despite the rally, the UK currency is still around 5pc down on its dollar value before early October’s Conservative Party conference – where Prime Minister Theresa May hinted she would opt for a “hard Brexit” settlement, one ruling out “membership of the single market” and prioritizing stricter immigration controls.
This fall in the pound has been sparked, as opposed to caused, by these early political skirmishes linked to the UK’s exit from the European Union. There are solid, fundamental reasons, in other words, beyond Brexit, why the pound needed to come down For starters, the UK has the largest current account deficit in the G7 – among the biggest in our peacetime history. Our annual budget deficit, despite years of “austerity”, also remains extremely large.
Across the Western world, government bond yields are plunging. On-going slow growth and the spread of negative interest rates among the G7 nations are sending alarming signals to those with the presence of mind to notice and the ability to understand.
Financial markets are riven with nervousness, amidst widespread cash hoarding. All of this had been happening – explicitly or below the surface – for years. It has nothing to do with Brexit.
It’s all about the V-word, apparently. That’s a nod not to Winston Churchill, but a rather different character – namely Mario Draghi, President of the European Central Bank. It would appear a eurozone quantitative easing program running to €1,100bn (£795bn) isn’t enough. Having churned-out €60bn of virtually-printed money a month since March, and committed to maintaining that pace until September 2016, Draghi has now signaled there’s likely to be even more.
“The degree of monetary policy accommodation will need to be re-examined at our December meeting,” he said last week, following the latest gathering of the central bank’s Governing Council in Malta. The “size, duration or composition” of eurozone QE could be adjusted, Draghi continued, with the monthly amounts getting bigger or the schedule extending into 2017 and beyond.
Being an economist often means telling people things they don’t want to hear. Or, at least, it should. That was what I told a group of smart young sixth-form economists I met last week at Cambridge University. It’s a message that needs renewed emphasis, given the early policy musings of Labour’s newly-elected leader.
This column has a long-held aversion to quantitative easing. I accept, in the immediate aftermath of the 2008 Lehman Brothers collapse, that some “extraordinary monetary measures” were justified. The Western banking system, after years of hubristic and sometimes fraudulent behavior in the City, on Wall Street and elsewhere, was close to collapse. Lax regulation by successive governments on both sides of the Atlantic meant deposits of ordinary firms and households were dangerously exposed to potentially explosive investment strategies.
Back in mid-July, there was much febrile speculation UK interest rates would finally start rising before the end of this year. Amidst signs of stronger US growth, and predictions the Federal Reserve would raise borrowing costs over the next few months, it was widely assumed the Bank of England would follow suit.
Last Thursday, though, as the UK base rate remained at 0.5pc for the seventy-eighth successive month, speculation of a pre-year-end rate rise dissolved, as some of us predicted. Most analysts now forecast, once again, the Bank of England won’t make a move before March 2016.
Back in mid-2013, America’s Federal Reserve signalled that its massive money-printing programme – so-called quantitative easing – would be coming to an end. Just the hint of “tapering” was enough to destabilise the US government bond market. The yield on 10-year Treasuries spiked above 3pc, from 1.7pc at the start of last year. The Fed, after all, since QE began in late 2008, had bought hundreds of billions of dollars of US sovereign IOUs.
For now, America’s Treasury market seems relatively stable, even though the taper eventually happened and QE officially ended this autumn. The US government currently pays a relatively benign 2.15pc to borrow 10-year money, despite its vast debt mountain just hitting $18,000bn – a mind-boggling 78pc up since President Obama took office in early 2009.
“Red warning lights are flashing on the dashboard of the global economy,” remarked David Cameron last weekend. The Prime Minister was highlighting, rightly, the plethora of economic and geopolitical risks currently stalking the world, all of which threaten the UK’s fragile recovery.
Referring to a “dangerous backdrop of instability and uncertainty”, Cameron pointed to conflicts in the Middle East and Ukraine, ebola, a slowdown among the big emerging economies of the East and, with a flourish, “a eurozone that’s teetering on the brink of a possible third recession”.
“It sounds far-fetched, I know,” I wrote in this column in December 2007. “But the ultimate victim of this sub-prime crisis could be nothing less than the single currency’s existence”.
Reading it today, the above statement seems pretty reasonable. Many mainstream analysts now recognize the huge stresses imposed by the on-going credit crunch could yet see monetary union break up, with at least one country leaving. To argue otherwise, certainly in Anglo-Saxon company, is to risk appearing in denial.
We’re told the Federal Reserve has “ended easy money”. I’m not sure that’s true. Yes, the US Central Bank announced last Wednesday that its gargantuan money-printing habit is soon to be scaled back. Instead of creating $85bn per month ex nihilo, the Fed will from January conjure up just $75bn. That’s still a massive base money expansion of $900bn a year.
At the same time, in a move apparently meant to help cash-strapped US mortgage-payers, but actually aimed at global financial markets, Ben Bernanke bolstered his “forward guidance”. America’s benchmark interest rate is likely to stay near zero “well past the time when the jobless rate declines below 6.5pc”, the Fed Chairman told the world. So US monetary policy remains ultra-loose but is now slightly less ultra-loose than before. Maybe.