Weak pound may be the only way for Britain to recover

Sterling tumbled last week as the prospect of a hung parliament, decades of crippling Government debt, and a long and slow recovery for the UK economy spooked financial markets.

It remains under pressure, something being felt in the City and beyond, including by the thousands of Brits heading abroad on holiday.

While £500 bought well over $800 in mid-January it is now worth little more than $700. The cost of a 200 euros ski pass has also rocketed from around £175 early in the year to the best part of £200 or more today — a rise of some 15%. Even for those staying at home, the feeling is that the collapse of the pound — it has fallen by about 25% in the last three years — is nothing short of a national disgrace.

As Gordon Brown himself said in the Nineties: "A weak currency arises from a weak economy which in turn is the result of a weak Government." Such comments now would be dismissed by the Prime Minister as "talking Britain down" such is the difference between Opposition and Government.

The Conservatives argue that the only thing stopping a full-scale sterling crisis is the chance of a change of Government in May and the implementation of a credible plan to cut Britain's ballooning debts. Today's warning from credit rating agency Fitch over the scale of Government debt adds weight to the Tory cause although a downgrade still looks a long way off.

Beyond the hysteria and political posturing which greet the pound's every slide, there have been hopes that a weak currency would not be such bad news. The drop in sterling, so the theory went, would boost demand for British goods abroad, particularly in Europe and America, the UK's biggest trading partners. But figures today suggest this is yet to happen.

Britain's trade deficit with the rest of the world — the difference between what Britain imports and exports — widened from £7 billion in December to £8 billion in January. It was the biggest trade gap since August 2008 and came after the sharpest drop in exports in over three years.

The City reacted with horror and the already weak pound weakened further against the US dollar, the euro and a host of other currencies around the world. "It's a pretty disappointing number," explains Alan Clarke of BNP Paribas. "Trade is one area where people have been expecting an improvement but it doesn't seem to be happening. In the big picture, this is bad news for first quarter GDP."

Given the fragile state of the global economy, and in particular the eurozone, which includes the so-called PIGS of Portugal, Italy, Greece and Spain, some argue the pound needs to weaken further to drive exports.

Richard Duncan, chief economist at Blackhorse Asset Management, reckons the pound needs to fall to parity with the dollar for the UK to balance its books. "The UK economy has grown dangerously dependent on one unstable industry, finance," he says. "The pound should be allowed to fall to $1 to boost the country's manufacturing exports and rebalance the economy."

The Bank of England is also concerned about overseas demand for UK goods.

Kate Barker, a member of the monetary policy committee, said last night that "slow growth elsewhere would make it more difficult for the UK" to sell goods abroad despite favourable currency fluctuations.

"The UK's external sector has so far perhaps had a rather disappointing response to the depreciation of sterling," she said. "Manufacturing output has not, so far, performed any better in the early stages of recovery than has the US, Germany or France."

Bank governor Mervyn King has welcomed, even encouraged, the fall in the pound, and seems eager to appear dovish enough to keep sterling under pressure.

Mark Bolsom, head of UK trading at Travelex, says: "King continues to support the depreciation of the pound in the hope it will boost exports. Perhaps he's being intentionally dovish because he wants to weaken the pound further."

The ever weakening pound may reflect the dreadful state of the UK's debt-ridden economy, but it will need to become weaker still to drag Britain out of recession.

A stronger pound would destroy any chance of an export-led recovery.