Should We Fear The Fall In The Value Of The £?

Since Britain voted for Brexit in June 2016, we have seen a significant decline in the value of the UK currency. Economic theory suggest that this will benefit the country, as imports become more expensive , therefore reducing demand for them. We can also improve the quantity of exports given that they now cost less in foreign currencies. This issue could be an important one for an "A" Level exam in Economics, and is one that should be approached from the perspectives of both the benefits that it may bring, but also the damage that it may cause.

Most people considering a holiday outside the UK will be lamenting the fact that they will now receive less spending money in Euros, American Dollars or Peruvian Soles. They are right! In June £100 would have bought $148, today it will buy approximately $125. Florida and Universal studios will now drain more of your bank account! But the British economy has to think beyond an increase in the price of buckets of your preferred soft drink while watching fireworks over a magical castle.

An exam question that springs to mind could be: "Is a depreciation of the Pound always good for the UK economy"?

Such a question must be in the minds of those currently considering exam questions, and to answer it you would need a well balanced appraisal of both the benefits, and the drawbacks of such a depreciation, alongside an appreciation of the key word in the question, "always".

While we can enjoy an increase in exports, we have to ask the question, "what do we actually export?", given that our manufacturing base has been eroded over the last three decades by increasing competition from China, among others. As this competitivity has been eroded, we have increasingly bought more tangible goods from outside the UK. Our current account has not benefited, and recent statistical evidence suggests our current account deficit is worsening, not improving.

Our imports are costing more, inflation has grown from zero to 1.6% (December 2016) recently, blamed by many on the fact that rising import prices are working their way through the system and into the shops. We continue to buy higher priced imports, and look likely to continue to do so for the foreseeable future. Companies also have difficult decisions to make, and as has been pointed out in this extract from an article:

"imports increased at a much faster £3.3 billion also to a record £51.5 billion , mainly boosted by higher purchases of machinery and transport equipment. Between the 3 months to August 2016 and the 3 months to November 2016" (http://www.tradingeconomics.com/united-kingdom/balance-of-trade)

The insecurity generated by any post Brexit deal with Europe, has perhaps led to a surge in demand for machinery and other items that may become more difficult to import in the near future.

What we can do to overcome this increasing deficit, with a weak pound, and an uncertain post Brexit future, gives us many ideas for discussion in such an essay question.

What would be the impact of elasticities on the demand for imports and exports? is a change in the exchange rate the only factor to consider when discussion the current account? what other factors may come in to play? A useful understanding of the key elements in this debate will help prepare you for such a question.