Pound falls as polls indicate more support for Brexit

pile of pound coins and notes Image copyright AFP

The pound has fallen after two separate surveys suggested rising support for the UK leaving the EU.

Sterling hit a three-week low against the dollar, dropping 1.5 cents to $1.4358, before recovering slightly.

Against the euro, the pound was 0.46% lower at €1.2705 at midday.

A YouGov poll found 45% favoured the UK leaving the EU, with 41% wanting to stay, while a separate Observer/Opinium poll also found the Leave campaign ahead by 43% to 40%.

"It is becoming extremely worrying for the financial markets and we expect more sterling losses if polls continue to indicate a Brexit lead," Hussein Sayed, chief market strategist at global online broker FXTM said.

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Media captionSimon Jack explains how the pound and the EU referendum are connected

Craig Erlam, senior market analyst at Oanda, said he expected the high level of volatility in currency trading to continue.

"With both sides likely to step up their game over the next couple of weeks, I imagine we'll see a lot more volatility in the pound, and the closer the polls get, or if 'Vote Leave' continues to push ahead, the pound may find itself back towards April's lows before too long."

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Some City analysts have warned that the value of sterling could drop sharply in the event of a Leave vote.

In May's Inflation Report, the Bank of England said that uncertainty over the EU referendum was already affecting the pound.

"There is evidence that a material proportion of the 9% fall in sterling exchange rate since its peak in November could reflect referendum effects," the report said.

Asked about the fall of the pound following success for Leave in the opinion polls, pro-Brexit Conservative Boris Johnson said: "The pound will go where it will over the short term. But, believe me, in the long term you can look forward to fantastic success for this country.

"I think the pound's value will depend entirely on the strength of the UK economy."

What could happen to the value of sterling in the event of a vote to leave?

According Paul Hollingsworth, UK economist at Capital Economics, a vote for leave could trigger an immediate fall in the value of sterling.

However, he believes the severity of the fall would be determined by what the opinion polls say over the next few weeks.

"If we see more of shift towards Leave then clearly we could see some of that depreciation come before the vote than after it.

"However, if polls lean towards Remain and we still vote to leave then there would be more of shock factor, and that could hit the pound hard."

On balance, he believes that a vote to leave the EU would cause a 10%-20% fall in the pound.

Mike Amey, a managing director at Pimco, the world's largest bond fund believes it would be more like 5% to 10%.

What about in the following weeks and months?

Any recovery of sterling would depend on various factors. On the upside we could see the political rhetoric around Brexit change following the vote, and this might have a positive impact.

"I can't imagine the Prime Minister would say 'this result is all doom and gloom'," says Mr Hollingsworth.

Image copyright WPA Pool
Image caption Mark Carney, governor of the Bank of England, has promised to protect the banking system following the referendum result

That said, some have speculated David Cameron might have to step down in the result of a Brexit vote. This would result in a leadership contest and more political uncertainty which could affect sterling.

It is not clear how long the process of leaving the EU would take.

"The negotiations could take two years or much longer, so it could potentially weigh on the economy for a number of years," says Mr Hollingsworth.

"However, it may not be as bad as some have said, because during the negotiations we would still have free trade and the free movement of people… We wouldn't wake up on the 24th and find ourselves outside the EU."

How is the Bank of England preparing for the vote?

The Bank of England is unable to comment on the impact of a potential Brexit at the moment as it is in Purdah - the period leading up to an election during which government departments generally refrain from making new announcements.

However, it previously said it would inject money into the banking system to allay any shortages following the referendum result.

In terms of monetary policy following a potential Brexit vote, inflation and a weakening economy could be big challenges for the Bank.

Image copyright LEON NEAL
Image caption Experts believe a vote for Brexit could lead to a sharp drop in the value of sterling

In response, some say it could keep interest rates on hold or cut them to zero.

But Mr Amey believes the Bank would not go as far as introducing a negative rate as we have seen in some countries.

"If they felt they needed to support economic growth more forcefully then they would re-engage in quantitative easing," he says.

What might happen to UK gilts following Brexit?

Some have argued that increased economic uncertainty following a vote to leave would trigger a sell-off in UK government bonds, or gilts.

But Mr Amey does not subscribe to this view and says gilts would rally.

This would be "largely because the market would expect an interest rate cut by the Bank of England and the UK financial markets would need a risk-free security to turn to.

"So if there was some volatility in other assets the gilt market would be sensitive to that and perform strongly."

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