The pound is regarded as an international currency. However, the financial crisis has caused the value of the pound to fall, reaching a four-month low against the euro in September. This recent weakening of sterling is partly the result of worries that the Lloyds Banking Group will find it difficult to meet the ‘strict criteria to leave the government’s insurance scheme for toxic banking assets’ set for it by the Financial Services Authority.
However, one of the main reasons relates to recently published figures showing UK debt (see for data). The UK’s public-sector net borrowing has now reached £16.1bn and the government’s overall debt now stands at £804.8bn: 57.5% of GDP. This represents an increase of £172bn in the past year. Over the longer term, this is unsustainable. The government could find it increasingly difficult to service this debt. This would mean that higher interest rates would have to be offered to attract people to lend to the government (e.g. through bonds and bills), but this, in turn, would further increase the cost of servicing the debt. Worries about the potential unsustainability of UK govenrment debt have weakened the pound.
But isn’t a lower exchange rate a good thing in times of recession as it gives UK-based companies a competitive advantage over companies abroad? The following articles consider UK debt and the exchange rate.
Pound plumbs five-month euro low BBC News (21/9/09)
Market data Telegraph (22/9/09)
Pound slides back against dollar and euro Guardian (21/9/09)
Pound drops as UK stocks fall for first time in seven days Bloomberg (21/9/09)
Public sector borrowing soaring BBC News (18/9/09)
Govt spending cuts ‘could help pound’ Just the Flight (21/9/09)
Pound dips to four month euro low BBC News (18/9/09)
Weak pound hits eurozone holidaymakers Compare and save (21/9/09)
Questions
- What is the relationship between public debt and the value of the pound? How do interest rates play a part?
- What is quantitative easing and has it been effective? How does it affect the exchange rate?
- What are the advantages and disadvantages of a freely floating exchange rate relative to a fixed exchange rate?
- If the UK had joined the euro, do you think the country would have fared better during the recession? Consider public debt levels: would they have been restricted? What would have happened to interest rates? What would have happened to the rate of recovery
The Chancellor’s pre-Budget report was a massive political and economic gamble. The government has clearly recognised the potential seriousness of the economic situation and, in an attempt to avoid a prolonged recession, has injected £21bn into the UK economy in the form of tax cuts and spending increases. The headline grabbing changes were a cut in VAT and an increase in the top rate of income tax to 45% for those earning over £150,000 per year, but there was a raft of other changes including £3bn of public-sector infrastructure projects being brought forward.
Will this fiscal kick be enough to prevent a deep recession? The Chancellor clearly thinks so. He has amended his forecasts for economic growth to acknowledge that GDP will fall by 1% in 2009, but he believes growth will bounce back to 1.75% in 2010. The links below are to a selection of articles relating to the pre-Budget report, but there are plenty of other sites offering discussion and analysis of the issues relating to this unprecendented Keynesian fiscal boost.
Pre-Budget Report: Alistair Darling’s £1 trillion debt gamble Times Online (25/11/08)
Pre-budget report 2008 Guardian (25/11/08)
Pre-Budget report 2008 BBC News Online (25/11/08)
Average earners lose out in PBR BBC News Online (25/11/08)
Pre-Budget Report – the documents BBC News Online (25/11/08) Links to all pre-budget report documents as pdf files
Robinson and Peston analysis of PBR BBC News Online (25/11/08) Video from the Daily Politics show
Darling needs to cure a nation hooked on debt Guardian (24/11/08)
Darling unveils borrowing gamble BBC News Online (24/11/08)
Analysis: is this the death of New Labour? Times Online (24/11/08)
Alistair Darling announces £20bn economic boost Times Online (24/11/08)
Alistair Darling’s £20bn tax giveaway Times Online (24/11/08)
The mother of all gambles Guardian (24/11/08)
Obama and Darling: compare and contrast Guardian (24/11/08) Video comparing the packages announced by Alistair Darling and Barack Obama
The £21bn tax gamble Guardian (25/11/08)
Call this a cure? Guardian (25/11/08)
Questions
- Write a short paragraph outlining the main policies set out in the pre-Budget report.
- Evaluate the likely success of the policies announced in the pre-Budget report in preventing a prolonged recession for the UK economy.
- Discuss the short-term and long-term impact on the UK money markets of the high levels of borrowing required to fund the tax and spending changes set out in the 2008 pre-Budget report.
- Assess the likely impact of the increase in the top tax rate of income tax to 45% on (i) consumer expenditure growth, (ii) tax revenues, and (iii) the incentive for higher rate tax payers to work harder.
- Discuss whether a fiscal solution, such as that set out in the pre-budget report, or a monetary policy solution will be more effective at preventing a prolonged recession in the UK..
The possibility of recession in the UK, the USA and Europe has attracted a great deal of media attention and in this podcast Andy Beharrell considers whether there is any real evidence of recession. The podcast considers the definition of recession, the causes of recession and the different approaches taken by governments to try to keep their economies out of recession. While the UK and Europe have adopted essentially rules-based policy approaches, the USA has taken a more interventionist and discretionary approach with a significant loosening of both monetary and fiscal policy.
