Shrivelling pound tells us all we need to know about UK plc

 
Allister Heath

So who is right? Currency traders, equity investors or buyers of gilts? The pound is tumbling, the stock market is soaring and gilts – UK government debt – are following a third way, improving but only slightly.

As ever, all of these moves are being analysed to gauge what the global markets actually think of the coalition’s policies.

Some of the figures are striking. On New Year’s Eve, just two months and 12 days ago, £1 would buy $1.63. Today, it’ll buy you $1.49, an 8.6 per cent collapse; good news for exporters and multinationals, but awful if you are planning to holiday abroad. The FTSE 100, meanwhile, keeps going up, closing at 6,503.63 yesterday, above the symbolic six and a half thousand level for the first time since December 2007, delivering vast gains to investors. Gilt yields shot up in the second half of last year; they have dipped recently, however (lower yields imply higher capital values, and vice versa, so the recent movement has helped existing investors). Ten year gilts currently yield 2.01 per cent, down from 2.21 per cent on 13 February but still much higher than the 1.44 per cent trough during the summer.

Given that these reactions appear to contradict one another, who, then, is right? All three markets are being buffeted by different forces. The FTSE 100 reflects the strength of global businesses less reliant than ever before on the British economy. It is also being impacted by the Great Rotation: the shift of cash from bonds to equities. Sterling’s value depends of course on that of other currencies – the dollar has been strengthening recently, which by definition has reduced sterling’s relative value. The government and Bank of England have been talking down sterling. But the pound has also recently become a good barometer of investors’ confidence in Britain, and they are worried that the coalition is losing control and that the country faces years of big deficits and stagflation.

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As to gilts, the rise in yields reflects several factors, including higher expected inflation and an increased risk premium, once again not so much of a default (as the UK could always print more money) but of future inflation. Gilts still remain far less risky that bonds of many European countries; contrary to what some have claimed, the Eurozone crisis is far from over, with economies still shrinking at a horrific rate and political problems mounting. The gilt market, however, is distorted by the fact that the Bank of England owns so many of the outstanding bonds; it is quite clear that many of the private sector buyers that don’t have to buy gilts for regulatory reasons are getting cold feet. But the Bank keeps coming to the rescue: it bought £1.1bn worth of gilts yesterday, as it reinvests £6.6bn pounds from the redemption of March 2013 gilts it had previously bought. These days, the best way to gauge what is happening at UK Plc is to look at sterling – and the picture isn’t pretty.

CRIME MUST NEVER PAY

IT is right that Chris Huhne and Vicky Price have both been given proper jail sentences. At a time when much of the public fears that there is now one set of rules for the poor and one very different kind for the rich and powerful, it is good to know that Britain can still mete out justice. It is vitally important that we continue to see more white collar prosecutions and jailings, including of rogue City financiers. If somebody breaks the law, they should be punished. It is the only way that our political and economic system can ever hope to regain its legitimacy.

allister.heath@cityam.com
Follow me on Twitter: @allisterheath