Economic Prospects for the UK and Policy Recommendations

By Weale, Martin; Young, Garry | National Institute Economic Review, January 1997 | Go to article overview

Economic Prospects for the UK and Policy Recommendations


Weale, Martin, Young, Garry, National Institute Economic Review


Much the most important economic change of the last quarter has been the continuing rise in the exchange rate. We commented in October that if the high level of sterling persisted then this would provide an element of monetary tightening and would reduce the need for an interest rate rise in order to meet the inflation target. Since October sterling has risen further. At the time of writing, the pound is at US$1.63 and DM 2.67 as compared with US$1.55 and DM2.30 only last August, and the trade-weighted index has risen by around 14 per cent.

Possible Causes of the Rise in Sterling

There are a number of possible factors which may explain the rise in sterling since the summer. First of all there is probably a view that the British economy is performing better than the economies of other major European countries in terms of unemployment and economic growth. This may be compounded by the uncertainty over the plans for Monetary Union and the fear that it may be a destabilizing influence, particularly in France. These two factors have combined to generate favourable sentiment towards sterling, raising demand for the currency.

Secondly there is an increased interest rate differential between UK and other countries. This may have been compounded by expectations of a rise in UK rates. We discuss this below. We agree that if, as the Bank of England has argued, expectations of a rise in UK rates are important, those expectations will have to be realised if the strength in sterling is to be maintained.

[TABULAR DATA OMITTED]

It is less likely that the increase is due to an improvement in supply conditions in the UK relative to those in other countries. It is true that the price of oil has increased and this gives Britain an advantage relative to oil importers. But the futures markets suggest that only half of the increase of 20 per cent since the summer is expected to last to the end of the year. Nor is it very likely that there have been other changes in supply conditions which would justify the sharp rise in sterling that we have seen.

Effects of the Rise in Sterling

We identify three main effects of the appreciation of sterling. First of all, a rising exchange rate means that the prices of goods sold in Britain tend to fall, if those prices are fixed in world rather than UK markets. The range of goods affected in this way may well be wider than Britain's imports. For example the sterling price of oil produced in the UK is reduced by a high exchange rate. This effect, of a rising exchange rate reducing inflation lasts only while the exchange rate is rising. It is sometimes argued that this consequence should be ignored because it relates to a rising rather than a high exchange rate.

There are a number of implications of the argument that such an effect should be ignored. First of all, the argument is presumably symmetric. If the downward pressure on inflation from a rising exchange rate is ignored, so too should be the upward pressure from a falling exchange rate. This leads to the second, more substantial point that, if the impact of exchange rate changes and presumably that of other import price movements is to be ignored, the implication is plainly that the inflation target should be defined in terms of domestic costs rather than the price of consumption goods. In other words, there should be a target for the GDP deflator and not a target for the retail price index. The logic extends to removing the effects of indirect tax changes from the target, so that it should be in terms of the GDP factor cost deflator. There is a great deal to be said for this. The current rise in the exchange rate presents an opportunity to change the target variable without the risk that any political motive will be identified.

A second consequence of the rise is its impact on Britain's real national income. Real national income is calculated by dividing the value of the national product by the price of consumption goods and represents the present and future consumption possibilities available from the nation's income. …

The rest of this article is only available to active members of Questia

Already a member? Log in now.

Notes for this article

Add a new note
If you are trying to select text to create highlights or citations, remember that you must now click or tap on the first word, and then click or tap on the last word.
One moment ...
Default project is now your active project.
Project items

Items saved from this article

This article has been saved
Highlights (0)
Some of your highlights are legacy items.

Highlights saved before July 30, 2012 will not be displayed on their respective source pages.

You can easily re-create the highlights by opening the book page or article, selecting the text, and clicking “Highlight.”

Citations (0)
Some of your citations are legacy items.

Any citation created before July 30, 2012 will labeled as a “Cited page.” New citations will be saved as cited passages, pages or articles.

We also added the ability to view new citations from your projects or the book or article where you created them.

Notes (0)
Bookmarks (0)

You have no saved items from this article

Project items include:
  • Saved book/article
  • Highlights
  • Quotes/citations
  • Notes
  • Bookmarks
Notes
Cite this article

Cited article

Style
Citations are available only to our active members.
Buy instant access to cite pages or passages in MLA, APA and Chicago citation styles.

(Einhorn, 1992, p. 25)

(Einhorn 25)

1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

Cited article

Economic Prospects for the UK and Policy Recommendations
Settings

Settings

Typeface
Text size Smaller Larger Reset View mode
Search within

Search within this article

Look up

Look up a word

  • Dictionary
  • Thesaurus
Please submit a word or phrase above.
Print this page

Print this page

Why can't I print more than one page at a time?

Help
Full screen

matching results for page

    Questia reader help

    How to highlight and cite specific passages

    1. Click or tap the first word you want to select.
    2. Click or tap the last word you want to select, and you’ll see everything in between get selected.
    3. You’ll then get a menu of options like creating a highlight or a citation from that passage of text.

    OK, got it!

    Cited passage

    Style
    Citations are available only to our active members.
    Buy instant access to cite pages or passages in MLA, APA and Chicago citation styles.

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn, 1992, p. 25).

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences." (Einhorn 25)

    "Portraying himself as an honest, ordinary person helped Lincoln identify with his audiences."1

    1. Lois J. Einhorn, Abraham Lincoln, the Orator: Penetrating the Lincoln Legend (Westport, CT: Greenwood Press, 1992), 25, http://www.questia.com/read/27419298.

    Cited passage

    Thanks for trying Questia!

    Please continue trying out our research tools, but please note, full functionality is available only to our active members.

    Your work will be lost once you leave this Web page.

    Buy instant access to save your work.

    Already a member? Log in now.

    Oops!

    An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.