Poun crashes to all-tiem low with UK markets 'under siege'

LONDON: The pound plunged almost 5% to an all-time low after Kwasi Kwarteng vowed to press on with more tax cuts, stoking fears that the new Chancellor of the Exchequer’s fiscal policies will send inflation and government debt soaring.

It was sterling’s biggest intraday decline since March 2020, when investor panic over the then-nascent Covid-19 pandemic roiled markets worldwide.

The pound’s tumble to as low as US$1.0350 (RM4.78) – fuelled by Kwarteng’s comment on Sunday that there’s “more to come” on tax cuts – has sparked calls for aggressive rate hikes from the Bank of England (BOE), with some analysts urging emergency action as soon as this week.

It’s adding to a volatile mix of concerns in global financial markets and threatens to engulf Prime Minister Liz Truss’s days-old administration in turmoil as the country grapples with a cost-of-living crisis.

“The pound’s crash is showing markets have a lack of confidence in the UK and that its financial strength is under siege,” said Jessica Amir, a strategist at Saxo Capital Markets in Sydney.

“The pound is a whisker away from parity and the situation is going to only worsen from here.”

While some market participants described the pound’s sudden drop in early Asia hours as a flash crash, the currency has held onto most of its losses and derivatives suggest traders are braced for further declines.

The options market now shows about 60% odds of the pound weakening to parity against the dollar this year, up from 32% on Friday.

The currency’s selloff began last Friday with the release of the government’s “Growth Plan,” a budget in all but name and the biggest tax giveaway in half a century.

Kwarteng scrapped the top level of income tax and cut the basic rate by a percentage point, while also reversing an increase in the National Insurance payroll tax brought in earlier this year.

On Sunday, he appeared unperturbed by the ferocious response that sent UK assets tumbling, telling BBC Television that he wouldn’t comment on market movements, but when it comes to tax cuts, “there’s more to come.”

Truss will face a rebellion from Tory backbenchers against her tax cuts if the pound falls to parity with the dollar, the Telegraph reported Saturday.

Meanwhile, some in the markets are already calling for emergency BOE action to stem the tide, an unprecedented action in modern times that would risk adding to the sense of panic.

Hedge funds had ramped up bullish bets on sterling just days before the crash, with leveraged investors adding 13,488 net long contracts during the week to Sept 20, the biggest increase since March, data from the Commodity Futures Trading Commission show.

“The scale of the move today (yesterday) means the BOE will be forced into action, at the very least to try and jawbone some stability,” said John Bromhead, currency strategist at Australia & New Zealand Banking Group in Sydney.

An “inter-meeting hike is incoming,” with traders already pricing in a 100-basis-point increase by the central bank in November, he said.

Yields on UK gilts jumped by a record amount for some maturities on Friday.

If maintained, the increase will dramatically inflate the cost of the extra £400bil (Us$422bil or RM1.94 trillion) of borrowing the Resolution Foundation estimate is needed over the next five years to fund the growth plan, adding to an interest bill already bulging thanks to sky-high inflation and BOE rate increases.