David Cameron frowning Ben Stevens/ I-images via Zuma Wire

Will Brexit Break the Pound?

The British government's recent announcement that a referendum on the UK’s EU membership will be held on June 23 was quickly followed by a sharp decline in the value of the pound. The risk is that such volatility – and the accompanying political instability – could drive British voters to reject the EU.

PRINCETON – The British government’s recent announcement that a referendum on Britain’s European Union membership will be held on June 23 was quickly followed by a sharp drop in the pound’s value. Exchange rate volatility for the pound is bound to continue until the referendum, and to intensify at moments when a vote for “Brexit” looks more likely. The result may be a self-fulfilling prophecy, in which market and political instability drive British voters to reject the EU – an outcome that would be highly dangerous for them and their European counterparts alike.

The political implications recall the experience of the twentieth century, when the pound’s external value was a national obsession in the UK and currency crises regularly destroyed the credibility of governments and wreaked political havoc. For example, in August 1931 – the middle of the Great Depression – a financial crisis and a run on the pound forced the resignation of the Labour government, led by Prime Minister Ramsay MacDonald; it was replaced by a coalition government, and the Labour Party split apart.

In 1967, another Labour government, led by Harold Wilson, was damaged by a devaluation spurred by a speculative attack; Labour lost the subsequent general election. The party regained power in 1974, but within two years Britain was hit by another currency crisis – this one large enough to require support from the International Monetary Fund. Again, Labour lost the next election and the party split.

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