1) The Pound’s Suspended Convertibility in 1946 and Its Devaluation in
1949
The 1940s are frequently referred to as “crisis years”43 for sterling. The war required the UK to borrow
immensely from its allies and colonies,44 and those obligations were required to be held in sterling. These war
debts financed about a third of the war effort. When the war ended, the UK could not meet its debt obligations
without the great pain of raising taxes or cutting government spending, so it necessarily mandated that its debt
assets (i.e., its bonds) could not be proactively sold by its former colonies.
As such, the UK emerged from World War II with strict controls on foreign exchange. The Bank of
England’s approval was required to convert pounds into dollars, whether to buy US goods or purchase US
financial assets (i.e., current and capital account convertibility was suspended). To ensure the pound would
function as an international reserve currency in the post-war era, and to prepare the global economy for a
transition to the Bretton Woods monetary system, convertibility would have to be restored. However,
because the US dollar was now the international currency of choice, the global economy was experiencing a
severe shortage of dollars at the time. Virtually all Sterling Area countries (the UK and the Commonwealth
countries) relied on inflows from selling goods and services and from attracting investments in dollars to get the
dollars they needed while they were forced to hold their sterling-denominated bonds. The UK experienced acute
balance of payments problems due to its poor external competitiveness, a domestic fuel crisis, and large war debts
undermining faith in the pound as a storehold of wealth. As a result, the first effort to restore convertibility in
1947 failed completely, and it was soon followed by a large devaluation (of 30%) in 1949, to restore some
competitiveness.45
Coming into the period, there were concerns that too quick a return to convertibility would result in a run on the
pound, as savers and traders shifted to holding and transacting in dollars all at once. However, the US was anxious
for the UK to restore convertibility as soon as possible as restrictions on convertibility were reducing US export
profits and reducing liquidity in the global economy.46 The Bank of England was also eager to remove capital
controls in order to restore the pound’s role as a global trading currency, increase financial sector revenues in
London, and encourage international investors to continue saving in sterling47 (a number of governments of
European creditors, including Sweden, Switzerland, and Belgium, were having increasing conflicts with the UK
over the lack of convertibility).48 An agreement was reached after the war, under which the UK would
reintroduce convertibility swiftly, and the US would provide the UK with a loan of $3.75 billion49 (about
10% of UK GDP). While the loan offered some buffer against a potential run on the pound, it did not change the
underlying imbalances in the global economy.
When partial convertibility was introduced in July 1947, the pound came under considerable selling
pressure. As the UK and US governments were against devaluation (as memories of the competitive devaluations
in the 1930s were fresh on everyone’s minds),50 the UK and other Sterling Area countries turned to austerity
and reserve sales to maintain the peg to the dollar. Restrictions were imposed on the import of “luxury goods”
from the US, defense expenditure was slashed, dollar and gold reserves were drawn down, and agreements were
made between sterling economies not to diversify their reserve holdings to the dollar.51 Prime Minister Clement
Attlee gave a dramatic speech on August 6, 1947, calling for the spirit of wartime sacrifices to be made once again
in order to defend the pound:
“In 1940 we were delivered from mortal peril by the courage, skill, and self-sacrifice of a few. Today we are
engaged in another battle for Britain. This battle cannot be won by the few. It demands a united effort by the whole
nation. I am confident that this united effort will be forthcoming and that we shall again conquer.”52
Immediately following the speech, the run on the pound accelerated. Over the next five days, the UK had to spend
down $175 million of reserves to defend the peg.53 By the end of August, convertibility was suspended, much
to the anger of the US and other international investors who had bought up sterling assets in the lead-up to
convertibility hoping that they would soon be able to convert those holdings to dollars. The governor of the
National Bank of Belgium even threatened to stop transacting in sterling, requiring a diplomatic intervention.54
The devaluation came two years later, as policy makers in both the UK and the US realized that the pound
couldn’t return to convertibility at the current rate. UK exports were not competitive enough in global markets
to earn the foreign exchange needed to support the pound, reserves were dwindling, and the US was unwilling to