Fiscal Policy and Currencies: When Governments Spend and Borrow

[Fairman]

Fiscal Policy and Currencies: When Governments Spend and Borrow

Central banks are not the only policymakers that matter. Government decisions about spending, taxes, and borrowing also influence currencies.

Large fiscal deficits mean more government borrowing. Effects on the currency are mixed. Stimulus can boost growth and support the currency, and heavy borrowing may push up yields, attracting capital. But if investors worry about debt sustainability or inflation, the currency can fall.

The United Kingdom provided a sharp example in September 2022, when an unfunded tax-cut announcement led to a sell-off in gilts and a sharp fall in the pound, forcing the Bank of England to intervene in the bond market. The lesson was that fiscal credibility matters.

Elections and budgets are scheduled catalysts. Markets watch budget announcements, debt ceilings, and credit rating decisions. A downgrade by a major agency can weigh on a currency, though the effect depends on whether it was anticipated.

Fiscal and monetary policy also interact. When governments spend heavily, central banks may need to keep rates higher to counter inflation, which can support the currency, if credibility remains.

For traders, the practical approach is to follow the calendar for budgets and fiscal announcements in the countries you trade, and recognize that unexpected announcements can cause sudden moves.

Practical step: add budget dates and rating reviews for your pair's countries to your calendar.

[Fairman]

The 2022 gilt episode is a good one to study on the chart. The pound didn't just drop on the announcement. It kept sliding as bond yields jumped, so the bond market was really leading the currency.

[Fairman]

Budget days are easy to miss because they're not always on the standard high-impact calendar list. I add them manually, plus any rating agency review dates I can find for the countries I trade.