By virtue of a referendum that took place in June 2016, Britain decided not to be a part of the European Union (EU). However, even when, Britain was officially part of the EU, it had not implemented key initiatives of the union viz. using the Euro and enabling a passport–free zone under the aegis of the unified Schengen visa policy.
The exit of Britain from the EU, termed as ‘Brexit’, caused a major jolt for the EU bloc and the repercussions are being felt by UK’s economy too. Even before Brexit vote happened, the GBP currency plunged to a record 7-year low just when the proposed idea of the exit surfaced. This is evidence enough that such developments, both political and economic, lead to wide swings or fluctuations in currency valuations. Read on to explore the rationale behind such happenings.
Currency Valuations – Impact of Political Developments
It is important to understand that geopolitical happenings, like the one mentioned above, is sure to cause upheavals and major consequences that impact the nation(s) concerned economically in a significant manner. Till a final and clear outcome for such a situation is obvious, the period in between is one of confusion which has its repercussions in the economy of the country.
The chaos is contributed to by politicians with opposing views making speeches, stakeholders vs. policymakers, varied information from market experts, economists, and rating agencies. All these do their bit to keep the uncertainty entrenched. All these raise the prevalent fears and give new dimensions to people’s fears and misconceptions about money and its value. These are, in time, reflected as volatility in the financial markets. This kind of volatility comes tied with an economic cost to the nation.
Brexit and The British Pound
The answer to the question as to why the British has been losing its value following Brexit vote is that it is because of the prevalence of uncertainty at many levels. Before the vote, one major uncertainty was whether Britain would stay on or move out of the EU. Now that the vote has actually taken place, the next major factor is the difference of opinion that Britain has with Scotland which is a UK member nation. It happens that Scotland wants to stay on with EU even if it means leaving UK. Also, Brexit entails a long period of uncertainty as far as future policies and trade relations with EU are concerned.
Brexit means that trade barriers may come into existence with EU. EU happens to be one of the largest trade partners with UK. The current annual trade of Britain with EU stands at £229 billion. This would definitely be impacted by the decision. Most of the British businesses would have to review their plans and decisions regarding licenses, taxes, logistics and legal requirements in view of Brexit that has happened. The overheads and costs would drastically change.
It should also be noted that the many competitive advantages that UK has particularly in the financial services segment have been impacted because of Brexit. Citizens in UK would also be impacted in that they will not be able to either work, involve in trades or migrate freely across EU borders as before. This block would also hold true for those EU nationals that want to work in, trade or migrate to the UK.
Uncertainty – Ifs and Buts
In spite of Brexit, the positive tone for Britain is that it may be able to negotiate favorable agreements with regard to trade and commerce with either the EU bloc as a whole or with the individual EU nations. The net result of all these may offset the disadvantage that has currently come up due to the closing of the free-trade zone. However, the off-side is that such negotiations will take a long time to get finalized and this translates to uncertainty prevailing in the near future though there may be benefits at the end of it all.
To top things up, the credit rating agency Moody’s has downgraded UK’s credit rating by two notches to AA following the country’s vote for Brexit. This rating would affect as to how expensive it would be for the government to borrow money. Fitch has also chosen to downgrade the credit rating to negative following Britain’s decision to leave the EU. Fitch has warned of sudden slowdown in the short-term growth of GDP of the businesses in Britain.
Other changes in the world of money following Brexit are that the Swiss franc (CHF) and US dollar (USD) have emerged as stronger currencies when compared to the British pound (GBP). This is obviously due to the declining sentiment of the businesses operating in the UK economy. Though the US Fed has raised interest rates, the Bank of England is unable to lift the rates, at least for the time being, and this has led to more speculations in the present times in the markets. Experts in market analysis have opined that the present state of uncertainty is likely to continue for some more time to come.
It is obvious that economic relations between nations and political tussles between them form a complex web. Though UK by itself has strong economic fundamentals the true impact of Brexit will depend on the strength of the EU-UK relationships in the future.
Therefore, any political uncertainty or major economic events drive market developments and currency valuations. Though all the turmoil usually takes long to settle down, there is a significant impact that is caused in mid-term event when there is geopolitical turmoil. The period of chaos brings with a certain lack of clarity and this usually negatively impacts many events. It also surely brings along with it a period of high volatility in the currency and financial markets.