A new report from the Resolution Foundation in the UK reveals that the British government is staring at a ‘black hole’ in its budget worth $46 billion. The think-tank admitted that the new Prime Minister, Rishi Sunak, and Chancellor of the Exchequer, Jeremy Hunt, will be forced to consider a string of spending cuts and tax rises across the UK. This is regarded as the only credible solution to plugging the gap caused by the fallout from the mini-Budget during the short-lived premiership of Liz Truss.
At the peak of the volatility surrounding September’s mini-Budget, the pound crashed to an all-time low value against the US dollar of $1.0327. The run on the pound was caused largely by unfunded tax cuts and plans to accelerate borrowing to cover energy bills for households for up to two years. Retail traders could profit from the decline in the GBP/USD forex pair just as easily as when this pair – and others – rose in value. By using contracts for difference (CFD) trading, traders can short (sell) an asset and go long (buy) on the same instrument, without even having to own it.
The CFD forex markets are highly liquid, with the ability to execute and manage orders in the market 24 hours a day, five days a week. This would have been beneficial for forex traders that thrive off the volatility created by economic moves like the one attempted by former Prime Minister Truss and her former Chancellor, Kwasi Kwarteng. The new government has since been forced to row back from much of the mini-Budget, but there remains plenty of work to be done to restore the public finances.
The recent GBP/USD rally is predicted to reverse in the coming weeks
The GBP/USD forex pair rallied to highs of around $1.15 last month after the announcement of the replacement Prime Minister, Rishi Sunak. However, investment banks remain convinced that this rally will be short-lived in the medium term. This is based on several hunches, including the weakening British economy, the Bank of England’s interest rate policy, and the strength of the US dollar.
Forecasts of GBP/USD falling into a trading range of $1.04-$1.10 in the coming months are underpinned by the UK’s impending recession, which will likely bite hard in the New Year. Although the financial markets predict the Bank of England (BoE) will raise its bank rate to 4.8% to curb inflation, recessionary pressures could lead to the central bank having to apply the handbrake sooner than expected. In doing so, this alone could further weaken the sterling against the USD and even the EUR.
The pressure on the pound is also based on the UK’s imbalance between imports and exports. The island nation now imports considerably more than it exports. Given that the UK buys its goods and materials in pounds, a weaker pound against goods and materials – which are often denominated in USD – is bad news for curbing domestic inflation.
Chancellor Hunt is set to make his first Autumn Statement on November 17. The government, therefore, has a matter of days to make some wholly unpalatable choices to repair Britain’s economic standing.