Dollar vs Pound: a history of ups and downs
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A strong US dollar is ending 2022 at near-parity with a wobbling British pound. How did we get here, and what does it all mean for South African investors?
The United States and the United Kingdom have what Winston Churchill called a "special relationship", based on close cultures and diplomatic ties. The US dollar and British pound have a similarly close relationship, and in foreign exchange (forex) terms, it's especially close this year.
The pound has always – always – been worth more than the dollar. Why, then, are they ending 2022 at near-parity? To answer that question, it's worth exploring the history of the two currencies' special relationship. It's a strange tale, filled with floating rates, summit meetings, pounds in pockets, and – perhaps inevitably – lettuce.
1940s – 1980s: lending and spending
Throughout the 1800s and into the 20th century, £1 would, as a rule, get you $5. Then in July 1944, with World War II still in full swing, the Allied nations met in Bretton Woods, New Hampshire, to figure out a post-war international monetary system. They settled on a range of exchange rates, including pegging the dollar at $4.03 to the pound.
Then the UK's post-war rebuilding, combined with the US's post-war strength, saw that drop to $2.80 in 1949. It stayed there until 1967, when years of unbalanced spending meant the UK had no choice but to devalue the pound by a further 14%, down to $2.40. UK Prime Minister Harold Wilson, who saw the sterling as a point of national pride, boldly announced that the devaluation "does not mean, of course, that the pound here in Britain, in your pocket or purse, or in your bank, has been devalued".
He was, of course, completely wrong. Forex doesn't work that way. The UK had gotten itself into this mess by importing more than it was exporting… And those imports were suddenly a lot more expensive. In 1972 things got even worse for the UK economy. Ill-considered government spending sent inflation spiralling to nearly 25%, forcing the Brits to go cap in hand to the International Monetary Fund (IMF), asking for an eye-watering $3.9 billion loan.
The idea was to help the pound retain its value. The idea failed miserably. By this point, currencies were free-floating (as they are now), which meant their values rose and fell with sentiments and forecasts around their national economies. In 1976 the sentiment was not good at all, and the pound fell, hard, to a then record low of $1.58. It recovered to around $2.30, but then came the 1980s.
In the UK, the early 80s meant Thatcherism, football hooligans, and grey skies. The US was all about yuppies, car phones, and huge hairdos. Those contrasting fortunes (along with some handy trade imbalances) saw the dollar boom to $1.05. Things got so wild that representatives from the world's five leading industrialised nations – the US, UK, France, Germany, and Japan – met at New York's Plaza Hotel to thrash out a deal to depreciate the (in their view, overvalued) dollar.
1990s to now: European Disunion
Some analysts draw a straight line between the pound's current problems and the UK's decision in 2016 to leave the European Union. The disastrous Black Wednesday of September 1992 suggests they may be right. Back then the UK flubbed its non-conversion to the Euro, forcing the Bank of England to sell $40 billion worth of assets ahead of the launch of the single currency. Fast-forward to 2016, and dollar traders were laughing again as the Brits bungled their relationship with the European mainland. The pound fell by 8% the day after the Brexit vote, bottoming out at $1.145 after months of decline.
Then, in 2022, the lettuce incident occurred. Historians will, of course, not remember it by that name, but we're sticking with it because a) the depth of the disaster is kind of funny if you're not British, and b) we're not British.
In September 2022, Liz Truss replaced disgraced Boris Johnson as UK Prime Minister, elected to the top job on a platform of tax cuts for rich people. Two weeks later her Treasury chief, Kwasi Kwarteng, announced a budget that would do exactly that. Sadly, Kwarteng failed to explain where the missing £45 billion would come from, and investors – who saw financial ruin on the other side of those tasty tax breaks – ran a mile. The pound, which was already in a bad way, collapsed to $1.035 to the dollar. Kwarteng was fired, and his replacement reversed the tax cuts… But Truss's salad days were over. When she was first appointed PM, a UK tabloid had placed a blonde wig on a head of lettuce and ran a countdown clock to see which would last the longest. The lettuce won. Truss resigned after barely 44 days in office.
What it all means for the rand
That, then, is a potted history of the pound and the dollar. What does it mean for the rand though, and why should you care? Let's run some numbers.
Take October's rand/dollar (R18.40) and multiply it by the dollar/pound ($1.10). Simple maths tells you that you should get R24.47 (rand/pound)… But you don't. You get slightly less (R24.24), which makes no sense until you realise those relationships aren't directly related. The dollar has strengthened against both the rand and the pound, while the pound has weakened slightly more against the dollar than it has against the rand.
Those relative strengths and weaknesses are important when you're looking at investing your rands offshore. The pound may seem attractive at an exchange rate of nearly R25, but not if the pound is weakening and the dollar is getting stronger. Relative strengths and weaknesses make the currency market a complex playground.
If you're using an investment app like Shyft, you'll need to understand the nuances of relative currency strengths. You'll also need to know that just because the pound has never been weaker than the dollar in the past, that doesn't mean it hasn't come close… And it doesn't mean that it can't happen in the future. Keep that in mind when you shift your rands around.
This post was sponsored by Shyft, the global money app, powered by Standard Bank. With Shyft you can buy forex instantly anytime, anywhere, and at the cheapest rates, and invest in top US stocks and ETFs. Shyft was named Best Financial Solution at the 2021 MTN Business App of the Year Awards. Visit Shyft to download it now, no matter where you bank. Shyft operates under the license of The Standard Bank of South Africa Limited, an authorised Financial Services Provider (FSP number 11287).
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