The British pound is riding high these days in the world's exchange markets. Its value against the U.S. dollar is strong and steady. That's a sign of great hope for the British economy, right?
Wrong, unfortunately. The pound has been lifted by the rush of capital investment into Britain, drawn first by the North Sea oil discoveries and now by the very high interest rates. As the pound rose, much of Britain's export industry has become increasingly unprofitable and uncompetitive.
Capital flows have profound effects on national economies, and deserve more attention than they are getting. Americans usually dismiss them as irrelevant to their own huge continental economy. But even here, the movements of international money are having significant impacts on jobs and profits.
The British case is clearer because the swings in the pound's value have been unusually severe. Four years, ago, after a series of crises, the pound fell to a price in dollars of $1.68. But then came a remarkable recovery. By last summer it was up to $2.20.
What makes a currency move like that? In the present world of floating exchange rates, the price of a currency behaves very much like the price of a commodity -- corn, for example, or soybeans. It responds to supply and demand, influenced by speculation on future value.
British importers sell pounds for other currencies to pay their bills; foreigners buy pounds to pay for British exports. If trade alone were setting the value of the pound, it would move to the point at which the value of exports equaled the value of imports. The number of pounds bought, after all, has to equal to the number sold. If exporters' prices were too high to meet world competition, their sales would drop. There would be fewer offers to buy pounds than to sell, and the price of the pound itself would decline -- in terms of other currencies -- to bring exports and imports back into balance.
But with the North Sea discoveries, oil companies began buying massive quantities of pounds. They weren't buying British exports. They were buying the equipment and labor to develop the British fields. The effect was to bid up the price of the pound with no regard for the effect on the balance of trade, or the viability of the manufacturing companies that produce for world markets.
The result of the heavy inflows of capital has been to push the pound to a much higher value than British sales of goods and services could justify. The squeeze reaches exporters' profits first, then their employment. As one economist puts it, the exporters are now being strangled by the high price of the pound.
An investment banker, John Forsyth of Morgan Grenfel and Co., Offers a further warning. A depression in the export industries, he observes, rapidly becomes structural. If they remain unprofitable for long, they lose the ability to respond to new opportunities. Investment in those industries falls, and skilled labor drifts away.
Conversely, Forsyth points out, the German and Japanese governments have systematically exported capital -- selling their currencies to hold the exchange values lower than trade alone would have set them. The efect has been the reverse of the British example. The exports industries in Germany and Japan have been unusually profitable, attracting rapid investment and talent. Success also becomes structural, as profitable companies accumulate technical expertise and build worldwide sales and financing networks.
Britain has a choice, Forsyth argues, between exporting capital or exporting jobs.
But Britiain imported capital heavily throughout most of the 1970s. Perhaps that helps explain why unemployment rose from 600,000 at the beginning of the decade to 1.5 million currently. There are 1.2 million fewer jobs in manufacturing industry in Britain today than 10 years ago -- a drop of 14 percent.
With the rapid rise in North Sea oil production, a further danger now arises. Britain may well be entirely self-sufficient in oil by the end of the year. When the British spent pounds, in the past, to buy foreign oil, that tended to hold the pound's value down. As they stop buying oil, the effect is to put more upward pressure on the pound, keeping it too high for profitable manufacturing in the years ahead.
It would be nice to live forever on oil revenues. But toward the end of the 1980s, British oil production is expected to decline.
There are always substantial risks in deliberately pushing down the value of a currency. The immediate effects are higher inflation and erosion of living standards. But the pound's present level seems to imply a continued decline in the ability of British industry to compete in the world.