Over the past month, the pound has moved sharply lower both against the euro and an assorted basket of currencies weighted according to trade. By making imports more expensive, this will add to inflation just at the point when other inflationary pressure may be easing off.
All the same, it would be wrong to think of what’s happening as a “sterling crisis” – or not yet in any case. The term “currency crisis” is generally associated with fixed exchange rate regimes, where a currency is eventually forced by markets to devalue. Ever since leaving the European Exchange Rate Mechanism, the pound has floated, and goes up and down according to sentiment. It cannot therefore have a crisis in the past meaning of the term.
But it could still be subject to a route, and that’s the worry as the Government again ramps up public spending – this time to deal with the energy crisis – while simultaneously initiating what potentially could be very significant unfunded tax cuts. Markets are not yet convinced by Trussonomics; it is with some trepidation that they await news of precisely what it means in Friday’s “fiscal statement.”
The overall low tax and small state aspirations of Britain’s new Government would normally be looked on favorably by financial markets. The trouble is that we have heard quite a lot about the former, but very little on the latter; a high spending but lower tax economy is a contradiction in terms, the prospect of which is making markets extremely uneasy.
A looming recession, dangerously high dependence on inflows of foreign capital, widening current account and budget deficits, high inflation, strongly rising interest rates, a growing structural deficit in the primary income balance – it all adds up to a pretty poisonous cocktail.
It’s easy to see why markets are worried, and that’s before you even add in any ongoing doubts about Brexit and a government that seems to care not a fig about fiscal discipline or indeed the independence of the Bank of England.
It is absolutely essential that some of these fears are defused in Friday’s statement. Markets need some sense of reassurance. The Bank of England may have failed miserably in its primary duty of maintaining price stability over the past year, but this is not the moment to be changing the mandate and undermining monetary independence. The Government also needs credible fiscal rules, however constraining they might be.
Trussonomics deserves a fair hearing. After years of advocating for a lower tax economy, it would ill become me to criticize such an aspiration now that we have a Government which is apparently serious about delivering it. Other aspects of the new Government’s supply-side, dash for growth economic agenda also have strong attractions.
Yet this also looks suspiciously like a government that believes it has nothing to lose, and is therefore prepared to take big risks in going for broke; either it works, or it’s left to the Opposition to clear up the resulting mess on the other side of the next election.
And I wonder if ministers have fully thought through the political implications of the growth agenda they propose. The most obvious way of improving productive potential, for instance, is to dismantle planning and immigration controls. Some have tried; politically, few have lived to tell the tale. It is not just Treasury and Bank of England orthodoxy that Truss is up against; it is also a powerful array of vested interest, quite a lot of it within her own party.
Currency markets can hardly be blamed for being skeptical. The ever sinking pound tells you that they don’t rate the new Prime Minister’s chances. But let’s hear what her Chancellor, Kwasi Kwarteng, has to say before passing judgement.
This article is an extract from The Telegraph’s Economic Intelligence newsletter. Sign up here to get exclusive insight from two of the UK’s leading economic commentators – Ambrose Evans-Pritchard and Jeremy Warner – delivered direct to your inbox every Tuesday.