The UK government built a $146 billion war chest to stop a run on the pound in the case of a 'no-deal' Brexit, Bank of America says

UKBank of AmericaBritain’s FX war chest was twice the size of Turkey’s in Q4 2018 — and Turkey was defending an actual run on its currency.
  • The British government and the Bank of England built a $US146 billion foreign currency reserve war chest to in the event of a no-deal Brexit, Bank of America said.
  • The stash “suggests the UK government was piling up FX reserves on the chance the UK would leave the EU without a deal and thus creating a run on the pound and a current account crisis,” the BofA analysts say.

The UK government built a $US146 billion war chest in the fourth quarter to defend against an anticipated run on the pound if Britain left the EU with no deal, according to a foreign exchange reserve analysis by Bank of America.

BofA analysts Kamal Sharma and Sebastien Cross called the buildup “unprecedented” among the larger global economies, in a note to clients seen by Business Insider.

“In the fourth quarter, UK FX reserves rose $US23 billion to $US146 billion (gross reserves),” they wrote. “In nominal terms, this is a 19% quarter-on-quarter increase in reserves and the largest quarterly increase since our series began in 2000. The scale of this pace of reserve accumulation compared to other G10 economies is unprecedented.”

Governments and central banks usually accumulate large piles of foreign currency when they want to make sure they can buy up their own currencies – pushing up the price – in the event of an attempted mass selloff. The intent is to ensure that any “run” on the central bank can be staved off.

Britain’s central bankers are still haunted by memories of 1992, when currency investor George Soros successfully “broke” the Bank of England by staging a run against the pound. Britain was forced to abandon the European Exchange Rate Mechanism, in which it pegged the value of the pound to the German mark.

The existence of the war chest “suggests the UK government was piling up FX reserves on the chance the UK would leave the EU without a deal, and thus creating a run on the pound and a current account crisis,” the BofA analysts say. They believe a no-deal scenario would push the pound down to just $US1.10.

UKBank of America‘UK has been building an FX reserves buffer in case of no-deal,’ Bank of America says.

A no-deal Brexit would be so damaging to the British economy that it would threaten the pound’s status as one of the world’s “reserve currencies” (the group of currencies that are considered so stable that almost all other nations are willing to trade them or hold them as their own central bank reserves), Sharma and Cross say.

“We have been concerned about the implications of a no-deal on the pound due in large part to its current account deficit position, but also because of its reserve currency status: global reserve managers hold $US500 billion in GBP reserve assets. In previous analysis, we estimated a 1% drawdown in GBP reserves could result in $US100 billion sales. The UK authorities are rightly concerned about the implications of a no-deal scenario and have correspondingly reacted.”

Of course, Britain did not leave the EU on March 29 this year, as had been planned. The Bank of England and the government have since wound down their position. But the BofA analysts believe a similar tactic could be used later this year, when Britain again attempts to execute its Brexit: “Looking ahead, we could easily see a re-run of fourth quarter events as we head toward the next Article 50 deadline in October.”

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