Sterling suffered its worst month since Brexit, and analysts expect it to ‘plumb new depths’

• Sterling dropped 4.5% against the greenback in August and continued to slide on Thursday, last trading just below $1.16 by mid-morning in London.
• Analysts expect sterling to "plumb new depths" as political and economic uncertainty continue to hammer U.K. assets.
• U.K. inflation hit 10.1% in July and the Bank of England has projected a peak of 13.3% before year-end. The country's energy price cap is set to rise by 80% to £3,564 per year from October with further increases expected in early 2023. 

The British pound suffered its worst month since the aftermath of the Brexit referendum, and analysts expect sterling to fall further as a "slowing economy and political paralysis" grip the U.K.Luke MacGregor | Bloomberg | Getty Images

LONDON — Sterling in August suffered its sharpest monthly fall against the U.S. dollar since the aftermath of the Brexit referendum, as political uncertainty and a historic cost-of-living crisis weigh heavily on the British currency.

Sterling dropped 4.5% against the greenback last month and continued to slide on Thursday, last trading just below $1.16 by mid-morning in London. The pound also fell nearly 3% against the euro last month.

The U.K. faces a rapidly deteriorating cost-of-living crisis as food and energy prices soar, with millions of households facing poverty this winter.

Meanwhile, a new prime minister will be named next week following a ballot among Conservative Party members, causing uncertainty over the outlook for fiscal policy.

The energy crisis arising from Russia's war in Ukraine is now widely expected to push the euro zone and U.K. economies into recession, while some economists still tip the U.S. to avoid the same fate given its relatively stronger economic position and energy independence.

In a research note Wednesday, Capital Economics Chief U.K. Economist Paul Dales said this divergence would drive further weakness in both the euro and the pound against the U.S. dollar, and expects sterling to "plumb new depths" as political and economic uncertainty continue to hammer U.K. assets.

"We think the pound will fall from $1.17 now to around $1.05 by the middle of next year. That would leave it below the levels reached before the 1985 Plaza Accord ($1.09), after the UK left the ERM in 1992 ($1.43), during the 2008/09 Global Financial Crisis ($1.38), after the 2016 Brexit vote ($1.21) and during the 2020 COVID-19 crisis ($1.21)," Dales said.

"In fact, $1.05 would be an all-time record low. At the same time, with high inflation likely to prevent the Bank of England from cutting interest rates as soon as the financial markets anticipate, we expect only a small fall in 10-year gilt yields by the end of this year and a big decline in the FTSE 100."

'Unequivocally bad'

Typically, declines in the value of Britain's currency have a mixed effect, since a weaker pound tends to boost housing prices and international trade, which in turn benefits many companies on the export-heavy FTSE 100 index.