The origins of sterling go all the way back to Anglo Saxon times and the reign of King Offa of Mercia who introduced a silver penny, so it is little wonder that the UK is one of the few EU countries to have opted out of adopting the Euro in its place – the need to convert pounds to dollars ( and many other currencies ) will be around for a great deal longer in my view! I thought it might be useful for you, whether as an investor or trader, to understand a little of the history of the currency, and the various standards that have been adopted and then rejected over the various centuries, which I hope will give you a more balanced view on why the currency behaves in particular ways, and how governments in the past have tried to control the relationship between the pound and US dollar in particular. On the next page we can then look at some of the economic indicators that move the currency on a daily basis, which I hope will give you a complete picture – and yes I will give you my views on where I think it is heading in next few months and years.

The UK currency as we know it today was issued following the establishment of the Bank of England in 1694, and during the early part of the 1700’s Bank of England notes became legal tender and their value floated relative to gold. The Bank also issued silver tokens in place of silver coins which were in short supply following the Napoleonic wars. In 1816 the gold standard was adopted officially, and in 1817 the first gold sovereign was introduced.  Following the adoption of gold by the UK as the standard by which currency values could be compared and measured, many other countries also followed suit as gold now provided a simple standard for conversion rates to be applied. At the time of its introduction the pounds to dollars conversion rate was around 4.8 – so if you think the US dollar is weak now at 2.0, think again!!
The gold standard was suspended during the first World War, and was re-introduced in 1925, in order to try to introduce stability back into the markets. The rates were pegged to the pre-war prices, which continued until the Great Depression and was eventually abandoned on 21st September 1931 as Wall Street crashed with the UK pound suffering an initial devaluation of almost 27% of its value. In 1940 following an agreement with the USA, the pound was pegged to the dollar at an agreed rate of 4.03 US dollars to the pound, a rate that was maintained throughout the war, and which eventually became part of a monetary system called the Bretton Woods system. The system was short lived and only survived until the 19th September 1949, when following considerable economic pressure the government took action and devalued the pound by 30% to 2.80 US dollars to the pound. This in turn prompted several other countries to devalue their currency against the US dollar.
The next milestone occurred in the summer of 1966 – with England winning the word cup and with the value of the UK pound falling, exchange controls were tightened by Harold Wilson’s government with the more bizarre being that overseas travellers were not allowed to take more than £50 out of the country. Believe it or not, this restriction stayed in place until 1979!! The UK pound was eventually devalued against the US dollar on the 18th November 1967 to 2.40 US dollars to the pound.

For nearly 150 years, governments in both countries had tried and failed with various systems of pegging currencies, all of which had ultimately fallen by the way side, either because they were too cumbersome or because governments were themselves forced into action as a result of economic or monetary pressures.  Finally in the early 1970’s the pound was floated and allowed to settle at levels dictated by free market economics. Since then the pounds to dollars exchange rate has fluctuated between it’s lowest value of $1.05 to a high more recently of $2.12, despite various crisis and ‘interventions’ by governments and central banks. The most notable of these were in 1976 when the government  had to borrow £2.4 billion to try to prop up the currency, to the ultimately disastrous decision to join the ERM in early 1990 which led to its forced withdrawal 2 years later on Black Wednesday. Speculator George Soros is widely believed to have made over $1 billion dollars selling the UK pound short and ultimately causing it’s removal from the ERM, despite the UK government’s attempts to shore up support by raising interest rates from 10% to 15%.

Since 1992 and it’s demise from the ERM, the UK pound has floated freely in the market and is freely bought and sold on currency markets around the world with it’s value fluctuating accordingly. The most recent changes to the way the currency is managed is in the relationship between the UK Government and the Bank of England. In 1997 the newly elected Labour Government handed over responsibility for the day to day control of interest rates to the Bank, a decision that had previously always been managed by the government of the day. The BOE is now responsible for ensuring that inflationary pressures are controlled by the rather blunt instrument of interest rates. Whether the UK will ever adopt the Euro is anyone’s guess – personally I think it is very unlikely in the short to medium term.  Along with Denmark, the UK has a unique opt out of the single currency as it did not join ERM 2 after the Euro was created. Technically all EU member countries are expected to join, however in reality this can be delayed indefinitely, as in the case of Sweden, with members refusing to join ERM2. The only UK territory that has adopted the Euro are the British sovereign bases on Cyprus.

I hope the above has given you a flavour of the UK Pound and some of the mechanisms that have been attempted to control the currency and its exchange rates. All have failed, some more spectacularly than others, and the currency is now left to float freely. However, I would urge you to remember that central banks and governments can, and do, still try to intervene in order to support their home currencies, so whilst economic pressures in general dictate the exchange rates from day to day, in certain cases where a currency becomes to strong or too weak, central banks are often ‘asked’ to intervene in the overall money supply. After all, the government of the day does not want the home economy to suffer should rates damage exports, imports or its ability to compete in world wide markets.