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Is the Pound Close to the Breaking Point?

While the pound’s recent declines may evoke memories of the 1992 "Black Wednesday" crisis, sterling's weakness does not reflect a general loss of confidence in UK assets. But the newly-announced plan to cap household energy prices may now lead to currency trouble by exposing the government’s balance sheet to huge potential losses.

LONDON – Thirty years ago, on September 16, 1992, currency speculators forced the British Government to abandon the commitment of pound sterling to the European Exchange Rate Mechanism. In the days that followed “Black Wednesday,” sterling subsequently lost 15% of its value. By early 1993, it had lost almost one-third of its value.

The pound’s recent weakness – last week, it fell to its lowest level against the US dollar since 1985 – has understandably evoked memories of this earlier episode, leading some to compare the pound to an emerging-market currency. But the comparison is imprecise and arguably inaccurate. Whatever its current economic travails, the United Kingdom retains strong institutions, a thriving democracy, and a reasonable track record of decent growth and low inflation.

So, what exactly has gone wrong, and is the pound really at risk from a generalized loss of confidence in UK assets?