In Britain: uncertain election, shaky pound

Britain's big debt and the possibility of a hung Parliament after upcoming elections have hammered the pound in recent months.

In recent months, the £sterling has been under formidable pressure. Against the $US, the £sterling has fallen by c10% since October - despite the unparalleled size of the US budget deficit. And, notwithstanding the serious currency travails of Greece and others Euro members, it has also fallen against the Euro.

While international trade movements are obviously key, the size of public sector net debt (PSND) is also very relevant. To fund it, unprecedented levels of gilt-edged stock – of c£200 billion this year and next – are being issued. Now that the leading buyer of UK gilts – the Government itself through its Quantitative Easing programme – has retired from the fray, perhaps temporarily, failures of gilt auctions seem increasingly possible. As such, the £sterling would be under even greater pressure.

Whilst no longer constrained by ERM obligations nor subject to previous forms of currency management, such as the long-forgotten ‘snake in the tunnel’, the next few weeks will be challenging for the £sterling. Above all, the result of the forthcoming General Election is becoming increasingly uncertain. Last autumn, a substantial Conservative Party majority was anticipated. More recently, a ‘hung Parliament’ has become a real possibility, with Gordon Brown conceivably remaining as Prime Minster within a Coalition.

Only serial Labour Party optimists expect the Government to be re-elected with a majority. However, such a scenario cannot be totally discounted – as economic pessimism dissipates and Labour strategists up their game. Remember, too, that the Conservative Party needs a near record swing to secure a workable majority. The one near certainty is that the polls will be volatile during the campaign - with the inevitable rogue poll emerging.

And if this uncertainty creates a full-blown £sterling crisis, would the Bank of England’s Monetary Policy Committee have to raise interest rates prematurely to prevent it sinking any further?

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