Note too that, judging by the behaviour of forward inflation rates, financial markets too consider this to be a real phenomenon: five years ahead, the expected value of eP/P* is around 16% lower than it was at the start of 2016. 2 This ratio then has to be divided by the same ratio in our trading partners. Obviously for every domestic shock described here, the exchange rate is affected symmetrically, and in the opposite direction by the same phenomenon in the rest of the world. 3 The ease with which this happens is what determines the slope of the supply curve in Charts 2 and 4. In the limit, if resources can move seamlessly and costlessly between sectors, the supply curve is flat. But this reallocation could take a long time. Empirically, over cyclical horizons, the correlation between exchange rates and demand disturbances is clear. 4 Arguably, the recent appreciation of the US dollar owes something to the expectation that the incoming administration will loosen fiscal policy. 4  All speeches are available online at www.bankofengland.co.uk/speeches  4  as four-year moving averages. The graph also illustrates quite how weak the currency is at the moment (the green dot on the right-hand side) given the recent robustness of domestic demand growth (the blue dot). Among other things this framework has important implications for the link between exchange rates and “imbalances”.
Brexit and the pound Speech given by Ben Broadbent, Deputy Governor Monetary Policy  Imperial College, London 23 March 2017  I’d like to thank Matt Corder, Chris Salmon, Michael Saunders, Greg Thwaites and Anthony Veal, along with other colleagues, for their helpful comments and assistance. I reserve particular thanks for my Economic Advisor Alina Barnett. 1  All speeches are available online at www.bankofengland.co.uk/speeches  Introduction and summary The vote to leave the EU led to a big drop in sterling’s exchange rate. One consequence is a rise in import prices and a squeeze on households’ real income. We may already be seeing the impact of that squeeze on retail spending, which in real terms fell quite sharply around the turn of the year. While it’s hit the income of households, however, the depreciation has come as a boon for many exporters. In sterling terms goods export prices rose 12% through the course of last year. This will significantly have boosted exporters’ profitability and with it the incentive to invest in extra capacity. In general, it’s not really right – not enough at least – to think about the impact of a change in the exchange rate in isolation. Asset prices are volatile in the short run, sometimes inexplicably so. But over time they tend to move for a reason. They’re driven by deeper things that can have important effects of their own.