Why Johnson’s no-deal Brexit gamble has hammered sterling

Ever since the 2016 EU referendum, the pound has gyrated to the rhetoric of the Brexit divorce: after the result was announced, it had the biggest one-day fall since the era of free-floating exchange rates was introduced in the early 1970s.

Since the 2016 vote, sterling has now lost 28 cents, one of the most significant falls for the currency in recent decades.

Why is the pound weakening?

“We see more GBP [pound] weakness to come,” ING said in a note to clients. “The current sterling meltdown is in line with our view that GBP risks are heavily skewed to the downside given the Brexit uncertainty and rising odds of an early election [our base case].” Johnson, who was hailed by US President Donald Trump as Britain’s Trump, has promised to strike a new divorce deal with the European Union and to energise the world’s fifth-largest economy after what he casts as the gloom of Theresa May’s premiership. On entering Downing Street on Wednesday, Johnson set up a showdown with the EU by vowing to negotiate a new deal and threatening that, if the bloc refused, he would take Britain out on October 31 without a deal to limit economic dislocation.

What has the British PM said?

He told reporters in Scotland on Monday that he wanted to get a new deal but that the government had to prepare for a no-deal Brexit. When asked about his remark during the campaign for the party leadership that the odds on a no-deal Brexit were a million to one, he said: “Provided there is sufficient goodwill and common sense on the part of our partners, that is exactly where I would put the odds.” Many investors say a no-deal Brexit would send shock waves through the world economy, tip Britain’s economy into a recession, roil financial markets and weaken London’s position as the pre-eminent international financial centre.

What do Brexit supporters say?

Supporters of Brexit say that while there would be some short-term difficulties, the disruption of a no-deal Brexit has been overplayed and that in the long-term, the United Kingdom would thrive if it left the European Union. Johnson’s ascent has placed an avowed Brexiteer in charge of the British government for the first time since the 2016 EU Brexit referendum.

But won’t a declining pound help British trade?

Not really. The pound’s latest slump is unlikely to provide a fillip to UK exporters, if recent history is a guide. Sterling’s decline after the 2016 European Union referendum, which coincided with a period of global strength, didn’t see the economy enjoy a boost from net trade. Now, with world demand on a downturn, it will be even harder to reap the benefits of a weaker currency.

So what’s likely to happen next?

The last time the pound had this large a four-day losing streak was in October 2016, when the currency slumped as much as six per cent to $1.1841 in a one-minute window. That flash crash was thought to have been caused by a mistaken currency order, after then Prime Minister Theresa May announced plans to trigger Britain’s withdrawal from the EU. It looks increasingly likely that the pound will revisit that post-Brexit low over the summer, according to Lee Hardman, a currency analyst at MUFG. “Recent price action supports our view that financial markets had not fully adjusted to price in the rising risk off a no-deal outcome.” The market will also have to contend with the Bank of England’s policy decision on Thursday, and sterling could face further pressure if the central bank strikes a more dovish tone.