The pound, historically one of the world’s strongest currencies, tumbled to its lowest ever value against the dollar last Monday. This followed the announcement of a ‘Mini-Budget’ by the UK Government, in which unfunded tax cuts were pledged in a bid to boost economic growth.
But what does a rickety pound mean for the UK’s Buy Now, Pay Later (BNPL) market? Will fluctuations in the pound’s value impact the way BNPL does business, particularly for UK based companies? What happens if a fall in sterling persists?
Added pressure on central bank borrowers
The UK could be in for a longer period of inflation than expected if sterling slides again. Since Britain imports more than it exports, international prices (often in US dollars) have a big effect on how much things cost at home. A further reduction in the pound’s purchasing power means the goods and services we buy from overseas will seem more expensive. Many businesses will be forced to raise their prices as a result, adding to inflationary pressures.
Higher inflation ultimately leads to higher interest rates. The proliferation of Buy Now, Pay Later providers happened at a time when interest rates were at rock bottom. But that is no longer the case. As we have seen, the Bank of England is willing to aggressively hike the base rate if necessary to tackle inflation, and these sharp rate increases coupled with a depreciating pound could render some UK-based BNPL providers’ business models untenable.
Many Buy Now, Pay Later providers borrow from central banks to fund their lending to consumers. These providers will be hit particularly hard, as the cost of borrowing from the Bank of England increases.
In other markets, an increase in cost is usually passed on to consumers. But Buy Now, Pay Later is free to use for consumers, so providers will likely increase fees for merchants, who may be unable to offset these price increases at a time when consumers are both spending less and using finance more. This could result in many 0% products being pulled from the market – a key tenet of BNPL.
Banks, on the other hand, primarily lend from their own cash deposits, which will theoretically increase as the savings rate increases in line with the base rate. This means bank-backed BNPL providers will be mostly unaffected by corrective monetary policy.
UK providers with overseas presence will gain competitive advantage
The good news is that UK-based retail finance providers with an international footing are in a strong position if sterling falls again. This is for two main reasons:
- Foreign income will be worth more
- The UK will become cheaper for investors
Contracts agreed at rates in foreign currencies will have a higher value relative to the pound. UK based retail finance providers doing business in Denmark, for example, will receive their income in Danish Krone. As Danish Krone is worth more when sterling depreciates, this revenue stream becomes more lucrative for the UK-based provider. Whether this has an overall positive impact will depend on the business and the percentage of overseas revenue relative to domestic, but there are potential gains to be realised.
Similarly, the increased strength in foreign currencies relative to the pound means that UK assets are effectively cheaper than before. This makes UK businesses more affordable to foreign investors and customers, which could spark a flurry of interest if the pound tumbles for a prolonged period.
Providers that do not currently have a foothold in the UK may also see this as a good opportunity to enter the market. A strong dollar means that UK based Buy Now, Pay Later providers are particularly appealing to US businesses. But volatility will need to subside before confidence is restored, meaning the market may see little activity in the short-term.
Up, up and away for holidaymakers
A weaker pound internationally could mean an uptick in retail finance transactions in the UK. Recent evidence suggests that consumers are increasing their reliance on Buy Now, Pay Later as a result of the cost of living crisis. A further increase in prices as a result of sterling’s reduced purchasing power will mean a further reduction in disposable income, likely leading to an increased use of retail finance.
One area that could see a particularly large increase is ‘fly now, pay later.’ The cost of going abroad increases if the value of the pound decreases, meaning trips abroad will become more expensive. UK consumers looking to get away may opt to spread the cost of their flights and accommodation with BNPL.
On the other hand, a weaker pound could increase demand for domestic travel. Trips to Europe, for example, become more expensive if sterling collapses against the euro. Though the point remains: a squeeze on income as a result of a devalued pound may lead to the increased use of Buy Now, Pay Later products.
The bottom line
Sterling has mostly recovered following a reversal in the 45p tax-cut, but its credibility has taken a hit. Volatility is a sign that the markets have low confidence in the UK economy, which will persist even as the pound recovers.
UK-based Buy Now, Pay Later providers with an international footing will benefit from the higher value of foreign income. Now may be the perfect time for UK businesses to increase their international scope, or for foreign businesses to enter the UK market.
Elsewhere, consumers and businesses will continue to feel the pressure, which may ultimately lead to an uptick in retail finance usage. However, rising interest rates will be a test for the UK-based BNPL providers lending from their own balance sheets. Higher transaction fees versus lower spending may make BNPL untenable for some retailers.
A spending plan is expected on November 3rd to quell investor fears. Sterling should benefit as a result – but if the numbers do not add up, we could be in for further falls in the pound.