The British pound crashed below $1.10 by mid-afternoon, hitting a new 37-year low against the greenback.
Finance Minister Kwasi Kwarteng said the government would cut personal income taxes and cancel plans to raise business taxes next spring, calling for a “new approach for a new era, focused on growth.” At the same time, he pledged to press ahead with plans to subsidize the energy bills for millions of households and businesses.
But investors aren’t convinced that the unconventional approach will actually help the economy, which the Bank of England warned this week was already likely to be in a recession. A number of them called it a huge gamble.
“It is extremely unusual for a developed market currency to weaken at the same time as yields are rising sharply. But, this is exactly what has happened since [Kwarteng’s] announcement,” Deutsche Bank strategist George Saravelos said in a note to clients on Friday.
Heading for parity with the dollar?
Lowering taxes, while politically popular, could also boost demand and push up prices, making the central bank’s task of getting inflation under control even more difficult.
“It makes me very sorry to say, but I think the UK is behaving a bit like an emerging market turning itself into a submerging market,” Summers said. “Between Brexit, how far the Bank of England got behind the curve and now these fiscal policies, I think Britain will be remembered for having pursued the worst macroeconomic policies of any major country in a long time.”
The greenback’s breakneck rally as the Federal Reserve takes aggressive steps to rein in inflation is adding to downward pressure on the British currency.
“Unless something can be done to address these fiscal concerns, or the economy shows some surprisingly strong growth data, it looks like investors will continue to shun sterling,” Antoine Bouvet and Chris Turner at ING said in a research note. “We think the market may be underpricing the chances of parity.”