the slow-motion disappearing act of the British pound


Just prior to the Brexit vote in June, at a point when sentiment had temporarily swung in favor of Britain remaining in the EU,  the British pound reached a high of about 1£ = $1.48.  Yesterday the post-vote slide reached a 31-year low of 1£ = $1.27, 14% lower.

What makes the $1.27 level significant isn’t just the continuing fall in national wealth induced by the Brexit vote.  It’s also that the UK has now slipped behind France for the title of second-largest economy in the EU.

The cause is the gradual working out of the detailed consequences of something that was, or should have been, well known in general terms before the Brexit vote–that however emotionally satisfying the Brexit vote might have been, there are potentially very large economic costs to the UK from leaving the EU.

They come in two forms:

–London is the financial center of the EU, and as such has tons of banking jobs which may well shift out of the country

–because it is more open to foreign companies than continental Europe, many multinationals have chosen the UK as the home base for their EU operations.  Much of that presence–and the associated jobs–may well be leaving now, as well.

US parallels

Two parallels can be drawn between the UK and the US from Brexit.

The first is that the vote in favor of Brexit–since generally regretted in the UK–was driven by an older, rural constituency that felt left out of EU-generated prosperity.  There is also an anti-immigrant element in the pro-Brexit camp, though not so overtly racist, I think, than among Trump supporters here.

The second is that in stock market terms the Brexit vote has not been as bad as one might have feared.  The currency has since fallen by about 12%.  The large-cap FTSE 100 has risen by 10% or so, however, offsetting most of that decline.  Many multinationals are actually up in US$ terms.

However, although the same forces driving voters in the UK may well be motivating those in the US, I don’t think the idea that the S&P 500 reaction to a Trump presidency in the US would be similar to the post-Brexit FTSE holds water.

That’s because the two stock markets have very different structures.  The UK is a small country with an outsized stock market, dominated (about 3/4 of the market cap) by multinationals headquartered in Britain but doing the vast majority of their business elsewhere.  For most of those, a fall in sterling has lowered administrative costs significantly but has had very little negative effect on revenues.  For multinationals with their debt in sterling, the advantage is magnified.  In additions, because multinationals give access to a stream of hard-currency revenue, they also serve as a modest form of capital flight.

Half the US stock market, in contrast, is made up of purely domestic companies, with another quarter doing business in nations whose currencies are linked to the dollar.  So the safe haven effect would be much smaller.  In addition, all of his other negatives aside, simply given Mr. Trump’s loony notions about foreign trade, the economic damage he might do is considerably greater.