This article deals with Black Wednesday in politics and economics. George Soros became one of the most famous currency traders in the world, his timely and brave bet against the Bank of England in 1992 on what became known as Black Wednesday. With costs of around £3.3 billion, Britain’s central bank was unable to defend itself from an attack in the currency markets, and Mr. Soros made an estimated $1 billion in profit as a result.

What is mean by Black Wednesday?

Black Wednesday refers to the 16th of September 1992, when a crash of the pound sterling forced Britain to exit the European Exchange Rate System (ERM). The United Kingdom was pushed out of the ERM because the value of the pound could not keep it from falling below the lower limit defined by the ERM.

Black Wednesday had been globally criticized at that time as a massive waste of money. Black Wednesday, on the other hand, helped the U.K. come out of the eurozone and save itself from all the future economic problems.

Black Wednesday and Its Aftermath

The UK’s prime minister and cabinet members authorized the spending ​of billions in Pounds Sterling as an attempt to contain the short selling by speculators. The Black Wednesday rate rise was sudden and the first for three years and therefore the market either panicked in confusion or lacked confidence in the government’s ability to bring the pound under control. Moreover, the British government announced that it would raise its interest rates from 10 percent to 15 percent to try and attract currency traders looking for greater yield on their currency holdings.

Unfortunately, currency speculators didn’t believe the government would make good on these promises and continued shorting the Pound Sterling. After an emergency meeting among top officials, the country was ultimately forced to withdraw from the ERM, to let the market revalue its currency to more appropriate, lower levels.

The country was arguably thrown into a recession afterward, with many British citizens referring to the ERM as the “Eternal Recession Machine.” While the government lost a lot of money, some politicians are glad the ERM disaster occurred, since it paved the way for more conservative polices that would ultimately be credited for reviving the economy.

What Black Wednesday teaches

Black Wednesday teaches a number of important lessons to both currency traders and governments, including some lessons that may surprise readers. For instance, statistical data suggests that the British economy was growing faster in the ERM than published figures suggest, and the resulting recession may have instead been due to the aftermath of the Lawson boom—a period of economic growth that preceded 1992.

Lessons for governments might include :

• Don’t dictate interest rates: ​The ERM interest rates were set for Germany when they should have been set by Europe for Europe.
• Pick your fights against speculators: Taking extreme measures to counteract decisive market action often becomes a futile and expensive endeavor.

Lessons for currency traders could include :

• Nothing’s impossible: The departure of Britain from the ERM was unthinkable to many during the crisis, but even governments make big mistakes.
• Be ready for extreme measures: Britain’s decision to raise interest rates from 10 percent to 12 percent to 15 percent in a single day demonstrates potential government resolve.

Conclusions

On positive side of the Black Wednesday fundamentally reshaped both the political and economic landscapes in the UK and wider Europe and some lessons are still being learnt over a quarter of a century later. Black Wednesday also showed the importance of the BoE’s operational independence and the separation of long-term, stable economic policy and the shorter, more tumultuous terms of governments that come and go. 

Black Wednesday is widely known as the day that billionaire currency trader George Soros broke the Bank of England and made over $1 billion. But, the real lessons are found by analyzing the underlying causes of the crisis and how they quickly led to problems. By understanding these issues, central banks can avoid future crises sparked by regulatory constraints.