Thursday, January 22, 2009

Pound Slumps on Quantitative Easing Fears

The Pound has been weak because:
However, there is now another factor weighing down on Sterling - the prospect of quantitative easing (basically quantitative easing involves increasing money supply by Bank of England buying government bonds) It is a bit like a modern form of printing money. The Governor of the Bank of England is proposing quantitative easing as a response to potential deflation and a failure of standard monetary policy (i.e. interest rate cuts not having much affect on demand)

However, the problem with quantitative easing is that increasing the money supply tends to depreciate the value of your currency. This is because it is less attractive to hold sterling if the value of sterling is going to be reduced by increasing money supply and inflation.

At the moment, the Bank haven't committed to quantitative easing - they will probably cut interest rates to 0%.

It is also worth remembering that although the Pound has weakened sharply against the dollar - to a low of £1 = $1.38, the US has already started quantitative easing, has a higher national debt, and their banking sector is just as fragile.

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