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Sample Essay on Black Wednesday

Black Wednesday

Black Wednesday in economics and politics refers to the September 16th 1992 incident when the British Conservative government was forced to withdraw the pound sterling from the ERM (European Exchange Rate Mechanism) after it failed to keep above the agreed lower limit in ERM.

It happened after the Hungarian banker, George Soros made more than 1 billion GBP profit through short selling the sterling. Quickly, he became known as ‘the man who broke the bank of England’. The United Kingdom treasury in 1997 estimated that the Black Wednesday cost was at £ 3.4 billion while other sources estimated figures that were as high as £ 27 billion.

Documents released in 2005 under Freedom of Information Act revealed the actual cost might have been £3.3 billion only. Trading losses in September and August were estimated at £ 800 million. Note that the main loss to taxpayers arose as a result of devaluation that could have made profits for them.

The papers also show that had the government maintained $ 24 billion available in foreign currency reserves and if the pound had fallen by that same amount, the United Kingdom would have made a profit of £ 2.4 billion on sterling’s devaluation.

The ERM was set up in 1979 but the UK declined to join it which was a controversial decision. This is because Geoffrey Howe, the Chancellor of the Exchequer was steadfastly pro-European. Nigel Lawson, his successor and a believer of fixed exchange rate admired West Germany’s low inflationary record and attributed it to the management of Bundesbank and the strength of Deutsche Mark.

Image 2As such, though the United Kingdom had not joined ERM, from the start of 1987 to March 1988, Treasury followed a semi official policy of ‘shadowing’ the Deutsche Mark. George Soros had been building huge position in pounds sterling for months that lead up to Black Wednesday.

He recognized the unfavorable position the UK joined the ERM. For him, the rate at which the UK was brought into the ERM was quite high, their inflation was much high (triple that of the German rate) and the British interest rates were also hurting their asset prices.

The government made attempts at propping the sinking pound in order to ensure it is not withdrawn from the monetary system the country had joined 2 years earlier. On 16th September, the government announced it would raise the base interest from a high 10 to 12 % in a bid to tempt speculators to buy pounds. They made another promise later in the day to raise it to 15$ but dealers kept selling the pound because they were convinced the government wouldn’t stick to its promise.

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