The pound plunged almost 5 percent to an all-time low after British Chancellor of the Exchequer Kwasi Kwarteng vowed to press on with more tax cuts, stoking fears that the new fiscal policies will send inflation and government debt soaring.
The slump was sterling’s biggest intraday decline since March 2020, when investor panic over the then-nascent COVID-19 pandemic was roiling markets worldwide.
The pound’s tumble to as low as US$1.0350 — fueled by Kwarteng’s comment on Sunday that there’s “more to come” on tax cuts — has sparked calls for aggressive rate hikes from the Bank of England (BOE), with some analysts urging emergency action as soon as this week.
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It is adding to an already volatile mix of concerns in global financial markets and threatens to engulf British Prime Minister Liz Truss’ days-old administration in turmoil as the country grapples with a cost-of-living crisis.
“The pound’s crash is showing [that] markets have a lack of confidence in the UK and that its financial strength is under siege,” said Jessica Amir, a strategist at Saxo Capital Markets in Sydney. “The pound is a whisker away from parity and the situation is going to only worsen from here.”
While some market participants described the pound’s sudden drop in early Asia hours as a flash crash, the currency has held onto most of its losses, and derivatives suggest traders are braced for further declines.
The options market shows about 60 percent odds of the pound weakening to parity against the US dollar this year, up from 32 percent on Friday.
The currency’s sell-off began on Friday with the release of the British government’s “Growth Plan,” a budget in all but name and the biggest tax giveaway in half a century.
Kwarteng scrapped the top level of income tax and cut the basic rate by a percentage point, while also reversing an increase in the National Insurance payroll tax brought in earlier this year.
On Sunday, he appeared unperturbed by the ferocious response that sent UK assets tumbling, telling BBC television that he would not comment on market movements, but when it comes to tax cuts, “there’s more to come.”
Truss would face a rebellion from Conservative backbenchers against her tax cuts if the pound falls to parity with the US dollar, the Telegraph reported on Saturday.
Meanwhile, some in the markets are already calling for emergency BOE action to stem the tide, an unprecedented action in modern times that would risk adding to the sense of panic.
“The scale of the move today means the BOE will be forced into action, at the very least to try and jawbone some stability,” said John Bromhead, currency strategist at Australia & New Zealand Banking Group in Sydney. An “inter-meeting hike is incoming,” with traders already pricing in a 100-basis-point increase by the central bank in November, he said.
The opposition Labour Party — already enjoying a comfortable lead in the polls — is seeking to capitalize on the policy gulf that has opened up with the Conservatives at its annual conference, which began in Liverpool on Sunday.
Labour leader Keir Starmer told the BBC that he would reverse Kwarteng’s most eye-catching measure — the scrapping of the top 45 percent rate of income tax levied on earnings over £150,000 (US$160,152).
“I expect there could be a significant rate hike out of cycle coming,” said Rajeev De Mello, portfolio manager at GAMA Asset Management in Geneva, Switzerland, who has short positions on the pound.
“It’s about rolling out the macro guns to protect your currency. They’ll have to do something. Parity would of course be something to look at now,” De Mello said.
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