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pleiades's avatar

Why does the British Pound outweigh the US Dollar in value when it seems that the economy of the United States is far more powerful?

Asked by pleiades (6366 points ) December 19th, 2013

Ok, I’m obviously really naive about this all. But how is it that the USD is about .569 per 1 British Pound?

Doesn’t the stronger economy outweigh the weaker one?

Please enlighten me! I love products from U.K. but I’m getting tired of the high prices.

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14 Answers

Thammuz's avatar

I think that, in general, it has something to do with the fact that the British economy is strong and reliable, and that the UK has always had very profitable trading agreements throught the commonwealth and the world at large.

While if we’re talking right now well, because the US economy is in the shitter compared to the UK’s, and most of Europe, even (what is it, 1$ = 0.7€ or something?). Plus your credit rating got downgraded for the first time in history recently so it follows the coin is losing value as a result (seeing how the buying power of a coin is, supposedly, representative of its country’s credit reliability)

jerv's avatar

Our economy is volatile, and there are good reasons to question it’s sustainability as well. Bigger is not always stronger.

Also, making enemies tends to lower your value.

zenvelo's avatar

Relative currency values are not set by the size of the economy, but by the relative purchasing power of the currencies. A pound buys, in Britain, the equivalent of what about $1.63 buys in the US. Economists call this Purchasing Power Parity.

Britain has worked to maintain that relative ratio as best it can, but it is much less than it used to be. For many years, before WWII, a Pound Sterling was equal to $5.00, even though the US economy was much bigger (Britain had a depression too). During the ‘60s, the pound was set at $2.80, and in the 70s, before it was allowed to float, it was set at $2.40.

But in the 1970s the currencies were allowed to float against each other, and by 1976 the pound was down to $1.20.

@Thammuz is not quite correct, the UK economy has not recovered from the Great Recession quite as well as the US, and it is not reliable.

elbanditoroso's avatar

The numbers ($1.00 versus .56) are just numbers. They’re basically arbitrary and meaningless by themselves. @zenvelo is correct that it’s the Buying Power that makes the difference.

Example:

If I want to buy a new shirt in the US, it costs $50.
That same shirt in the UK is 50 pounds, or about $75 equivalent.

(By the way, it’s even worse for technology items)

So my buying power in the US is far better than in the UK, because I was able to buy that shirt for less money (and a smaller percentage of my income)

That’s what you need to look at.

PhiNotPi's avatar

There are two factors which affect price, supply and demand. Your question basically asks why the pound is more valuable if the dollar has larger demand. The answer is that the pound has a smaller supply, which drives the value up.

The median weekly earnings in the UK is about £500, while the median weekly earnings in the US is about $770. Since workers get paid fewer units of currency, products also have lower prices (in units of currency). Since a product’s price is less in pounds than dollars, pounds has a higher value in currency conversions.

bolwerk's avatar

Most others are basically right, a pound and a dollar just happen to be (rather arbitrary) base currencies to work from. It might help to think of it this way: the same phenomenon is very stark with Japan, where instead of using their equivalent to a dollar as a base they use the equivalent to a USA penny. Hence a textbook Yen is worth about a U.S. penny. @PhiNotPi pretty much covers what is happening.

A more complicated factor no one mentioned is interest rate manipulation. A pound has a higher return in a bank than a dollar. But a very simple way to look at the phenomenon is to compare two simple scenarios:

- Scenario 1. You have $100. You loan it to me, and I agree to pay you back next week with $10 interest. The weekly interest rate is 10%.

- Scenario 2. You have $100. You loan it to me, and I agree to pay you back next week with $1 interest. The weekly interest rate is 1%.

The currency is obviously worth more with the higher interest rate because by loaning it out you can get more money back next week under Scenario 1. By manipulating interest rates, governments can change demand for their currency. When there is less demand for currency, people see less reason to save and are more likely to spend – this in turn provides a short-term boost to the economy.

josie's avatar

Print too many dollars, and they aren’t worth as much and it takes more of them to buy something.

Rarebear's avatar

It’s not a question of the absolute value of the monetary unit, but what the purchasing power is. You need to look at, say, a liter of milk and see how much it is to purchase it with each unit.

stanleybmanly's avatar

I would like to congratulate the crowd here on the splendid series of answers to this question. I would also like to comment that there are not quite so obvious influences on the relative values of the currencies. A major reason that things are are more expensive in Britain is that the tax load on goods and products is significantly higher. But then again, THEY have universal health care.

PhiNotPi's avatar

There actually are some advantages to having a “weaker” currency. In the same way you may view products from the UK as relatively expensive, people in the UK may view American products as relatively inexpensive. This has the affect of increasing the sale of American exports.

jerv's avatar

@PhiNotPi Quite so. One of my old employers sold almost ⅔ of their stuff to a couple of larger Asian firms. We tended to prosper when the dollar was weak against the Yen and/or Yuan.

pleiades's avatar

@PhiNotPi But what about with Vietnam or even the Philippines? You said, “The answer is that the pound has a smaller supply, which drives the value up.” Couldn’t the same be said about Vietnamese currency? “Smaller supply for them.” as well as for the Philippines peso?

I guess I need to learn overall the currency system of the world!

bolwerk's avatar

@pleiades: I have no idea how those currencies circulate, but supply-demand is only part of it – who and how it is demanded matters to, in any case. Internationally, people want pounds and dollars and euros and yen. These are stable currencies not too prone to inflation, so they make for stable investments.

Basically, what @PhiNotPi said applies. Those countries obviously have large populations so there is probably high local demand for the currencies. They probably circulate a lot of local currency. Also, local purchasing power for the currency may not be that low.

mattbrowne's avatar

It has nothing to do with the economy. It’s just numbers.

Why is 30 degrees Celsius hotter than 80 degrees Fahrenheit? Because of stronger European weather?

Of course currency values can change against each other depending on supply and demand, unlike temperature scales.

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