Brexit: If This Happens, the GBP to USD Exchange Rate Could Crash

BrexitBrexit Could Hammer GBP to USD Exchange Rate

The Brexit referendum could be a jolt of health for Europe and for the U.K. if Britons decide to stay in the European Union (EU). The risk of losing one of its key members may finally lead the EU to discuss real integration issues rather than focus on the color of tomatoes or the shape of bananas. However, if Britons decide to leave the EU, as some recent polls suggest, the first effect will be a collapse of the GBP to USD exchange rate. (Source: “Pound Drops as New Brexit Poll Shows ‘Leave’ Camp Taking Lead,” Bloomberg, May 31, 2016.)

“The British are a nation of shopkeepers,” said Napoleon. It would be good of those who care about the fate of the British pound to remind Britons (perhaps omitting the French origin of the saying) to vote with their wallets on June 23. Their hearts might favor separating from the EU, but they would ultimately lose much more than they may realize.

For those Brits who want to remain in the EU, the latest polls are not encouraging. The Brexit voters are winning and this could cause the GBP to USD exchange rate to plunge, endangering the health of the U.K. economy, according to UBS strategist Ramin Nakisa. The GBP to USD could fall way below the record bottom of $1.36, while the euro to GBP exchange rate could reach parity—or worse. (Source: “Euro to hit parity with sterling on ‘Brexit’ vote: UBS,” CNBC, May 27, 2016.)

It’s not only about the British pound, though. It could also affect the U.K.’s gross domestic product (GDP). Nakisa says that a Brexit could cut the U.K.’s GDP by about two percent over the long term. And the biggest impact of the Brexit could occur in the Forex market, both in the euro-sterling pair and the GBP to USD. (Source: Ibid.) In terms of the euro, it certainly won’t escape unscathed, according to Nakisa. It would lose against the dollar because the Brexit carries substantial consequences for the European economy as well.

The exchange rate of the GBP to USD is currently around $1.43. It shows no sign of slowing its dive, too. Unless some new authoritative poll comes out to suggest a turn away from Brexit, it could easily touch $1.36 by the end of the week. The dollar will continue to go up against the pound thanks to fears of a Brexit, but also thanks to the very likely rise in interest rates by the Federal Reserve.

Even Mike Amey, CEO and portfolio manager at Pimco, believes that the pound is under pressure due to uncertainty surrounding the Brexit. Pimco expects a 10% devaluation of the pound against the dollar if Britain votes to leave the EU. (Source: “How to Play the Brexit Blues,” Barron’s, May 30, 2016.)

Politically, the EU would move along without Britain in a reflective mode. Europe will perform a self-purge, examining the reasons for the U.K.’s request for divorce like a saddened husband who has lost his wife because he was unable to communicate effectively. That will eventually bring the remaining EU partners closer together.

Yet, the Brexit could also prompt other EU countries to split from the union, reviving regionalisms, such as the Basque and Catalan disputes in Spain. This would leave some members, perhaps four to six of the original members (Italy, Germany, France, Belgium, Luxembourg, and the Netherlands), to form a solid core and a real union that would rival the rest of the world.

The British economy, in the case of a Brexit, would enter the darkness and the unknown, while the EU clutches opportunity from disintegration and reformation. In other words, the Brexit would be worse for Britain, especially London, than for the rest of the EU.

It would definitely be worse for the British pound. Today, and for the next few weeks, London is the undisputed financial center of Europe. If Britain chooses to leave the European Union, it would lose that role, relegating it to Frankfurt or Paris.

London would lose much of its financial relevance and so would the British pound. And why are the Britons risking this? Those Britons who want to leave the EU fear immigration. They’re not thinking about the financial consequences at all. They don’t worry about the fate of the GBP. In fact, the “City,” London’s financial center, is going to be voting to stay in the EU en masse.

A Brexit is the solution only for those who don’t like the idea that someone in Brussels might impose quotas on immigration, so immigrants may be spread among different countries, including Britain. Consider that Britons already have many independent institutions: the GBP sterling, the Bank of England, Westminster, and the Queen. To many opposing Brussels, having independence in immigration policies is attractive. But perhaps Prime Minister Cameron, who is risking his role and seat in parliament over the referendum, might want to remind Britons what the consequences to the British people’s wallets might be with the GBP to USD and GBP to EUR exchange rates plummeting…

Meanwhile, the financial markets have intensified their focus on the Brexit risk. As mentioned, the British pound has depreciated against the dollar and the euro. The Brexit referendum has already accentuated uncertainty, reducing confidence and setting the stage for a series of shocks in the financial markets in the U.K. and across Europe. Inevitably, Wall Street would also feel those shocks, despite the USD emerging much stronger against the sterling and the euro.

Long-term, a vote in favor of a Brexit could cripple investment not only in the U.K. but also in all the economies with high exposure to the U.K.—the United States included.