Fear that Britain could vote to leave the European Union is hurting the pound. And the pain may just be beginning.
A referendum on membership of the EU could be held as early as June, and investors are becoming increasingly concerned about a British exit — or ‘Brexit.’
The campaign to persuade voters is gathering pace, but the outcome is highly uncertain — as are the consequences of what would be an unprecedented event.
That uncertainty is unnerving investors: the British pound has fallen by 10% against the U.S. dollar since June 2015 to its lowest level in nearly six years. It has weakened by about 4% in the last month alone and is now worth around $1.43.
If it votes to leave Europe, Britain could find its status as the region’s leading financial center under threat.
Some multinational companies, banks and hedge funds may decide to relocate. And Prime Minister David Cameron will face calls to resign — he wants Britain to stay in a reformed EU.
“The recent weakness [in the pound] is ‘Brexit’ related and there is more to come,” said fixed income analyst Alan Clarke of Scotiabank.
Capital Economics warns the pound could fall to $1.30 before long, saying it will “remain on the defensive” until the Europe question has been settled.
Opinion is divided on how damaging a ‘Brexit’ would be for the economy, but analysts are concerned that Europe’s refugee crisis may turn the referendum into a vote on immigration rather than the broader benefits of membership.
Berenberg’s U.K. economist Kallum Pickering said he expect the British will vote to stay in the EU, but he has raised his estimate of the risk of an exit to 35%.
What’s certain is that ‘Brexit’ will dominate the headlines for months to come, and that means the pound will remain under pressure.
The future of Europe is not the only problem for the currency right now.
Growth is slowing — U.K. GDP grew by 2.2% last year, down from 2.9% in 2014, and there’s little to suggest it will accelerate in 2016.
Finance Minister George Osborne has already warned that the economy is facing a host of headwinds, including a slowdown in China.
All that means that the chances of a rise in U.K. interest rates continue to disappear over the horizon, making the pound less attractive to hold.
And the usual upside to a weaker currency – cheaper exports – isn’t really going to work in the U.K.’s favor.
“With key markets like China slowing the impact [of a weaker currency] is likely to be limited,” wrote IG market analyst Chris Beauchamp.
