The British pound plunged below $1.10 by mid-afternoon, hitting a new 37-year low against the greenback.
Finance Minister Kwasi Kwarteng said the government would cut personal income tax and cancel plans to raise business taxes next spring, calling for a “new approach to a new era, focused on growth.” At the same time, he promised to press ahead with plans to subsidize the energy bills of millions of households and businesses.
But investors are not convinced that the unconventional approach will actually help the economy, which the Bank of England warned this week was already likely to be in recession. A number of them called it a huge investment.
“It is highly unusual for a developed market currency to weaken at the same time as interest rates rise sharply. But that is exactly what has happened since [Kwarteng’s] announcement,” Deutsche Bank strategist George Saravelos said in a note to clients on Friday.
Towards parity with the dollar?
Lowering taxes, while politically popular, can also boost demand and push up prices, making the central bank’s task of bringing inflation under control even more difficult.
“It makes me very sad to say, but I think the UK is behaving a bit like an emerging market that is turning itself into an underwater market,” Summers said. “Between Brexit, how far the Bank of England got behind the curve and now these fiscal policies, I think Britain will be remembered for running the worst macroeconomic policies of any major country for a long time.”
The dollar’s breakneck rally as the Federal Reserve takes aggressive steps to curb inflation is adding to downward pressure on the British currency.
“Unless something can be done to address these fiscal concerns, or the economy shows some surprisingly strong growth data, it looks like investors will continue to fire sterling,” Antoine Bouvet and Chris Turner at ING said in a research note. “We think the market may be underpricing the chances of parity.”