Using a measure called the broad effective exchange rate, a measurement of a currency’s value against a basket of their major trading partners, the pound has crashed to its lowest level on record.
The pound is now weaker than at any time during the Brexit process, as well as what it was was during the last global financial crisis in 2008-2009.
As I write this article, the pound is currently trading at €1.06 and $1.14. That is a significant drop compared to €1.19 and $1.29 just one month ago. With the government promising a huge monetary stimulus in response to the coronavirus induced economic crisis, investor confidence in the pound is at an all-time low.
Whilst a weak currency comes with one set of problems, one that is too strong comes with another. That is the problem which the US is currently facing as the dollar surges on global exchange markets. Demand for the dollar, often seen as a safe-haven for investors, has increased dramatically as fears mount over the extent of the economic fallout from Covid-19.
With the global economic conditions changing from day to day, it is almost impossible to predict the long-term effect of these extreme fluctuations in global exchange rates. As we speak, international trade is the least of any government’s concerns, but were the changes to remain once we emerge from the other side of Covid-19, it could make economic recovery a lot more difficult.
THINK LIKE AN ECONOMIST!
Q1. What is meant by the term exchange rate?
Q2. Explain why monetary stimulus from a central bank is likely to lead to a depreciation in the exchange rate.
Q3. With the use of a diagram, show the impact of the increased demand for the dollar on the equilibrium exchange rate.
Q4. Discuss the negative impact that an appreciating exchange rate might have on America’s ability to recover from the economic fallout caused by Covid-19.
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