The strength of sterling is good news for those jetting off to the beaches of the Mediterranean this weekend, because their pounds will buy them more euros than they did a year ago. The same goes for travellers to the US, given that the pound is trading at its highest level in five years against the dollar.
Sterling has risen in the past year for three main reasons. Firstly, it had plenty of ground to make up after falling by 30% between mid-2007 and early 2008. During that period, the financial crisis and the deep recession that followed, going abroad was eye-wateringly expensive.
Secondly, the economy finally turned the corner in the first few months of 2013 and it has been growing fast. The UK has grown more rapidly than the eurozone or the US, and that has made it attractive to investors.
Finally, the feeling in the markets is that the Bank of England will be the first of the world's major central banks to start raising interest rates. Dealers expect Threadneedle Street's monetary policy committee to start tightening policy either towards the end of 2014 or during the first few months of 2015 – before any action from the US Federal Reserve, the European Central Bank or the Bank of Japan. The prospect of higher yield on sterling investments has again attracted money to London.
Is this a good thing? It certainly means that pounds will stretch further for those travelling abroad, but to the extent that it will encourage foreign travel and make it more expensive for foreigners to visit the UK, it will widen Britain's trade deficit in travel and tourism, a feature of the economy since the mid-1970s.
What is true for the tourism industry is also true for other sectors of the economy, especially manufacturing. The Bank of England has already said that any further appreciation of the pound would be unwelcome, because it would increase the trade deficit and hinder attempts to rebalance the economy towards exports.
This warning should be heeded by those planning holidays, if not this year then perhaps in 2015 and thereafter. The recent history of the UK economy is for strength in sterling to be cyclical, with increases in the value of the pound followed by sharp declines as investors grow concerned about the economy overheating. A looming general election and a possible in-out EU referendum are two additional reasons why there is a risk of sterling being dumped at some point. So enjoy it while it lasts.
