# Murmurs of ‘sterling crisis’ no longer fanciful: Mike Dolan Author: Pal Sinha, Barnali Author URL: https://financedigest.com/author/pal-sinha-barnali Published: 2022-09-07 Category: NEWS Category URL: https://financedigest.com/category/news Meta Title: Sterling Crisis Fears Resurface as UK Faces Currency and Meta Description: Read about the rising concerns over a potential sterling crisis in the UK as a new prime minister takes office and economic uncertainties loom. URL: https://financedigest.com/murmurs-of-sterling-crisis-no-longer-fanciful-mike-dolanhtml ![undefined](https://prod.superblogcdn.com/site_cuid_cm5qst7v3003gwirgwqtxn8i8/images/2022-09-07t061553z1lynxmpei8609xrtroptp4britain-stocks-1736815267164-compressed.jpg) By Mike Dolan LONDON (Reuters) – Even though fears of another “sterling crisis” have been wide of the mark for decades, they are harder to bat away this time around as a fourth British prime minister in six years takes the helm. In an interview last month, Bank of England chief Andrew Bailey testily dismissed the notion of a UK currency or balance of payments crisis brewing, blaming global U.S. [dollar strength for the pound’s 20% plunge against the greenback over the past year](https://www.financedigest.com/dollar-creeps-up-in-subdued-start-to-new-year.html "Dollar creeps up in subdued start to new year") to within a whisker of levels not seen since the mid-1980s. “It is not a crisis in my view at all.” But the rare sight of the pound and UK government bond prices [falling in tandem ever since sounds an alarm bell that there’s something more awry than a love for the dollar](https://www.financedigest.com/dollar-falls-to-nine-month-low-as-powell-notes-progress-in-disinflation.html "Dollar falls to nine-month low as Powell notes progress in disinflation") or the ebb and flow of volatile currency markets. Foreign [investors seem to be balking at a toxic mix of surging UK inflation and inflation expectations](https://www.financedigest.com/wave-of-lawsuits-over-ftx-expected-but-investors-will-face-legal-hurdles.html "‘Wave’ of lawsuits over FTX expected, but investors will face legal hurdles") into a looming recession, with interest rates climbing steeply just as government borrowing is set to soar again under new PM Liz Truss. Moreover, Truss seems intent on cutting taxes even as she indicates more than a 100 [billion pounds of additional spending to ease the winter energy](https://www.financedigest.com/petrofac-hitachi-energy-receive-14-billion-agreement-from-tennet.html "Petrofac, Hitachi Energy receive billion agreement from TenneT") price crunch. With [post-Brexit trade](https://www.financedigest.com/uk-housing-boom-may-derail-post-brexit-trade-dreams.html "UK housing boom may derail post-Brexit trade dreams") policy uncertainties also hanging, overseas financiers seem minded to steer clear of UK assets. In a headline-grabbing research report this week, Germany’s Deutsche [Bank said the risks of a UK balance of payments crisis](https://www.financedigest.com/how-the-2023-banking-crisis-unfolded.html "How the 2023 banking crisis unfolded") were rising and foreign investor confidence could not be taken for granted as risk premia on government bonds rose and borrowing became more expensive. What’s more, it reckoned sterling’s trade-weighted index – down 7% since January – may [need to fall another 15% to drag the country’s record current account](https://www.financedigest.com/5-countries-you-need-to-have-an-offshore-account-in.html "5 Countries You Need To Have An Offshore Account In") deficit of more than 8% of national output even back to 10-year averages. If investor confidence erodes further, this dynamic could become a self-fulfilling [balance of payments crisis](https://www.financedigest.com/risk-of-uk-balance-of-payments-crisis-under-truss-is-rising-deutsche-bank-warns.html "Risk of UK balance of payments crisis under Truss is rising, Deutsche Bank warns") whereby foreigners would refuse to fund the UK external deficit. The very phrase “sterling crisis” resonates deeply with many in Britain as it conjures up some of the darkest moments of post-World War Two UK [economic history – when the country struggled to retain the confidence of foreign investors needed to finance its chronic balance of payments](https://www.financedigest.com/combatting-economic-uncertainty-in-2023-with-the-payments-sector-2.html "Combatting economic uncertainty in 2023 with the payments sector") deficits. As these periodic crises – 1967, 1976 and 1992 – tended to happen during periods of fixed or semi-fixed [exchange rates](https://www.financedigest.com/currency-exchange-how-to-find-the-best-rates.html "Currency Exchange: How to Find the Best Rates"), resolution often meant deep currency devaluation to make UK assets sufficiently cheap and draw back foreign capital. The first two at least also needed conditional bailout loans from the International Monetary Fund to help [steady the ship and prop up the pound at new rates](https://www.financedigest.com/shares-steady-dollar-dips-as-us-holiday-lifts-rates-gloom.html "Shares steady, dollar dips as US holiday lifts rates gloom") that would allow government to borrow again at affordable rates in the bond market. But as sterling has floated freely since 1992’s ejection from Europe’s exchange rate mechanism and as the [Bank of England has resorted to money](https://www.financedigest.com/marketmind-banks-are-leaking-money.html "Marketmind: Banks are leaking money") printing and bond buying to support government borrowing over the past 15 years, the very idea of a classic sterling crisis and foreign funding crunch dissipated. Sure, the [pound has swooned at times – but the absence of inflation for the past two decades allowed the BoE to underwrite the gilt market in times of emergency government borrowing loads and the lower exchange rate](https://www.financedigest.com/beat-the-exchange-rate-and-buy-that-dream-holiday-home-by-paying-in-pounds.html "Beat the exchange rate and buy that dream holiday home – by paying in pounds! ") drew foreign capital back quickly to recapture equilibrium and gave exports a lift into the bargain. Greatest hits: when [sterling and gilts](https://www.financedigest.com/sterling-snaps-four-day-drop-but-gilt-market-havoc-tempers-gains.html "Sterling snaps four-day drop, but gilt-market havoc tempers gains") sell off https://fingfx.thomsonreuters.com/gfx/polling/gdpzyxwxrvw/Pasted%20image%201662474758002.png ![](https://onlineworldnews.com/wp-content/uploads/2022/09/010.jpg) UK Twin Deficit outlier https://fingfx.thomsonreuters.com/gfx/mkt/klvykazabvg/One.PNG ![](https://onlineworldnews.com/wp-content/uploads/2022/09/012.jpg) UK [current account](https://www.financedigest.com/euro-zone-current-account-deficit-widens-again-on-large-energy-bill.html "Euro zone current account deficit widens again on large energy bill") and sterling https://fingfx.thomsonreuters.com/gfx/mkt/dwpkrxaxqvm/Two.PNG ![](https://onlineworldnews.com/wp-content/uploads/2022/09/011.jpg) SUMMER OF ’76 [Times have changed](https://www.financedigest.com/why-the-time-is-right-for-finance-to-embrace-digital-change.html "Why the time is right for finance to embrace digital change"). Now the resurgence of inflation, rising interest rates and active [Bank](https://www.financedigest.com/sterling-rises-as-receding-bank-sector-worries-lift-sentiment.html "Sterling rises as receding bank sector worries lift sentiment") of England bond sales to reduce its balance sheet all change the equation just as the need for foreign money rises ever higher as trade and current account gaps balloon. Deutsche fretted about the similarities with the 1976 sterling [crisis – which was also seeded by an energy](https://www.financedigest.com/europes-energy-crisis-and-the-nuclear-path-out.html "Europe’s energy crisis and the nuclear path out") shock, aggressive fiscal spending and sterling weakness and led to a painful IMF bailout. And it said the new prime minister must convince investors she can find the right balance because “expansive, poorly [targeted fiscal policy would widen twin deficits and worsen inflation](https://www.financedigest.com/the-mouse-that-roared-new-zealand-and-the-worlds-2-inflation-target.html "The mouse that roared: New Zealand and the world’s 2% inflation target") expectations. If overseas money dries up, the Bank of England could resort to bond buying again – but this would cut across its inflation [fight and stated](https://www.financedigest.com/wizz-air-loses-fight-against-67-million-in-state-aid-for-romanian-rival.html "Wizz Air loses fight against million in state aid for Romanian rival") plans and potentially raise inflation expectations and borrowing premia further. Overseas funds acknowledge sterling may already appear relative cheap on fair value models but they can’t yet see a [way around](https://www.financedigest.com/5-time-efficient-ways-to-travel-around-the-philippines.html "5 Time-Efficient Ways to Travel Around the Philippines") the multiple domestic problems. Cesar Perez Ruiz, Chief Investment Officer at Pictet [Wealth Management](https://www.financedigest.com/analysis-credit-suisse-collapse-threatens-switzerlands-wealth-management-crown.html "Analysis-Credit Suisse collapse threatens Switzerland’s wealth management crown"), said he was still “very negative” on gilts and on the pound despite valuations. A lot of people are looking at the UK as if it were an [emerging market,”](https://www.financedigest.com/britain-launches-plan-to-boost-green-investments-in-emerging-markets.html "Britain launches plan to boost green investments in emerging markets") he said. “And in that scenario the victim tends to be the currency.” Nomura’s strategist Jordan Rochester also reckons it’s best to stay short of the pound because the government’s 100 billion pound spending plans to cap [household energy bills](https://www.financedigest.com/44-of-uk-households-are-worried-theyll-have-to-foot-the-bill-for-net-zero.html "44% of UK Households are Worried They’ll Have to Foot the Bill for Net Zero"), unlike similar pandemic supports two years ago, would see UK balance of payments and terms of trade deteriorate even more while debt costs surge. For [HSBC strategist Dominic Bunning the risk](https://www.financedigest.com/financial-risks-of-climate-change-overplayed-senior-hsbc-banker-says.html "Financial risks of climate change overplayed, senior HSBC banker says") for sterling remained to the downside beyond fleeting rebounds. The UK may have a new Prime Minister, but the economy and the currency [face the same old challenges:](https://www.financedigest.com/under-saved-and-underprepared-women-face-challenges-saving-for-retirement.html "UNDER-SAVED AND UNDERPREPARED: WOMEN FACE CHALLENGES SAVING FOR RETIREMENT") weakening growth and high inflation, widening external imbalances and a reliance on foreign financial inflows. Sterling and the UK [yield curve](https://www.financedigest.com/u-s-yield-curve-inverts-after-strong-jobs-data-world-shares-mixed.html "U.S. yield curve inverts after strong jobs data; world shares mixed") https://fingfx.thomsonreuters.com/gfx/mkt/zjvqkrermvx/Three.PNG ![](https://onlineworldnews.com/wp-content/uploads/2022/09/013.jpg) UK 2-yr Yield Premia https://fingfx.thomsonreuters.com/gfx/mkt/xmvjoalaxpr/Four.PNG ![](https://onlineworldnews.com/wp-content/uploads/2022/09/014.jpg) The opinions expressed here are those of the author, a columnist for Reuters (by Mike Dolan, Twitter: @reutersMikeD; Added chart from Andy Bruce; editing by David Evans) --- This blog is powered by Superblog. Visit https://superblog.ai to know more. ---