This is part 2 of my article. You can read part 1 by clicking HERE or just check out my profile. Here’s where we left off our story last time.
September 4th 1992
As Europe’s Crisis intensifies, Europe’s Finance Ministers and Central Bankers gather in London for a meeting. Norman Lamont’s job was to convince Helmut Schlesinger, the President of the Bundesbank, to lower German rates.
On an awkward dinner meeting, Norman Lamont bluntly asked Helmut Schlesinger to cut interest rates the very next Monday. There was no introduction, it sounded more like a demand asking for a favour. The Bundesbank President wouldn’t agree to a cut in German interest rates. Four times Norman Lamont repeated his request.
Helmut Schlesinger recalls how he felt in that moment:
‘’As a member of the Bundesbank one is an independent person, one cannot be treated as an employee. It’s not possible. I cannot accept it. And I thought he’s not my master. I must bring this exercise to an end’’.
As a furious Schlesinger prepared to storm out, Germany’s finance minister intervened and asked Norman Lamont to end the discussion. Schlesinger made it clear to the British that they had to either increase interest rates or devalue the Pound inside the ERM.
September 11th 1992
The crisis enters a critical stage. Speculations increase that the Italian government was preparing to devalue the Lira.
The currency comes under severe market pressure, pushing it to the lower end of its range versus the Deutsche Mark. The Bank of Italy was forced to intervene and buy Liras. The Bundesbank, bound by the rules of the ERM, was forced to help and do the opposite side of the trade by selling Deutsche Marks.
‘’One billion dollar was what we were spending in a few hours and we reached two or three or four or even five billion dollars. This was, at least for me, an astonishing amount of money’’: Giuliano Amato the Italian Prime Minister.
Soon the selling intensified. Helmut Schlesinger made a decision to stop fighting the market even though ERM rules required him to intervene. He told the Italians that they were on their own.
Amato recalls his reaction to the decision:
‘’I asked them Why? They said it’s costing too much, we’re spending too much. And we’re not ready to go on indefinitely’’.
The German Leader Helmut Kohl met with Schlesinger. Schlesinger proposed a deal. The Bundesbank would cut interest rates if Italy, Britain and others devalue their currencies.
John Major rejects the Bundesbank offer
Major flat out rejected that offer. He was confident that he could withstand the onslaught of the markets. The Italian PM Amato insisted that he reconsiders his position:
‘I told him the markets are in a fighting mood and I don’t think they’ll see the victory on the Lira as satisfactory, they’ll close new targets’’
Italy devalues the Lira by 7%, Germany cuts interest rates by 0.25%
The next morning on the September 14th Italy devalued the Lira by 7%. At the same time the German Bundesbank cut Germany’s interest rates by 0.25%. Traders lost fortunes in the devaluation. Scared of a British devaluation, traders started to sell British Pounds.
Strange ‘’Off the Record’’ remarks push Britain to the edge
What happened next caused probably the biggest controversy of the crisis.
On September 15 1992, Bundesbank’ s President Helmut Schlesinger is giving an interview to Werner Benkhoff of the Handelsblatt Newspaper. He gave the following remarks:
‘’The alignment was not satisfactory. It was not enough, it was only a small devaluation in the Italian Lira. He wanted a more comprehensive realignment, other currencies involved as well’’
Helmut Schlesinger believed his remarks were ‘’off the record’’. Werner Benkhoff did not.
The UK Treasury was oblivious of the Schlesinger comments as it was preparing a defense from the market’s onslaught. They put up 1 billion Pounds to defend Sterling.
Black Wednesday, September 16 1992
‘’We got to work at six o clock because Schlesinger made the comments the night before and with all that happened with the Lira we were all pretty worried that the Pound was gonna come under lot of pressure that day’’: Mark Clark, currency trader.
Rumors of a Pound devaluation spread like wildfire. Banks, pensions funds and other big institutions didn’t want to be caught holding a currency that was going to lose value.
Soros’s Fund has a 5 Billion Pounds bet against Sterling.
‘’The Bundesbank was basically egging on the speculators to speculate against the weaker currencies and we took our cue actually from the Bundesbank’’: George Soros.
On the other side of the trade was the Bank of England.
Dep. Governor of the Bank of England at the time Eddie George remembers that day.
‘’We decided that as the London market came in, we would intervene. On a scale that would indicate that we meant it. And that’s what we did’’
‘’ It was incredible. You could hear wave after wave after wave of selling being met with resistance by the Bank of England. They were buying such a phenomenal amount of Pounds’’: Mark Clarke.
The Billion that the UK Treasure put up to defend the Pound was gone in a few minutes. Now Britain was spending its gold reserves to prop up the failing currency.
‘’We then posed the question. Is this it? Is the game up?’’: Eddie George asked himself.
The BOE suggested raising interest rates as they couldn’t save the situation just by intervening. A reluctant John Major agreed to a massive rise in interest rates from 10% to 12%.
11:00 AM Interest Rates go up from 10 to 12%
As the news of the interest rates rise hit the wires, the market perceived it as weakness not as strength.
‘’We had a fairly strong sense that we were on the kill. It indicated to us that we’re at the end game, that this was an act of desperation. So instead of restraining us, it was really an invitation to double up. To try to sell as much more as possible’’: George Soros.
Spending 2 Billion Pounds Per Hour
The BOE had 19 Billion Pounds in foreign currency reserves but was now spending 2 Billion Pounds per hour to keep the Sterling’s value from falling below 2.778 versus the Deutsche Mark.
‘’My view was that the gig was up. The scale of selling went up after the interest rate rise because there were people in the market who said that doesn’t make any sense in the context of the UK economy’’: Eddie George.
John Major called a meeting of the cabinet where he outlined all the options. A decision was made to take yet another desperate move to delay the inevitable. Interest rates would go up to 15%.
Interest Rates go up from 12% to 15%
‘’The interest rate market exploded in noise. We couldn’t believe it, the BOE has raised interest rates again. There was a very small rise in the Pound of 0.3% and then the Pound fall back to the floor again. And the bank was back to buying Pounds’’: Mark Clarke.
‘’That afternoon it became an avalanche of selling.’’: Soros.
By this time, the Bank of England has spent 15 Billion Pounds.
John Major asks Helmut Kohl for help.
Desperate to keep the Pound in the ERM, Major asks his German counterpart for help. His answer was a non-committal ‘’We’ll get back to you’’. They never did. John Major then decided there was no other way, Britain would have to leave the ERM.
16:00 The Bank of England withdraws from the market
‘’At 4 o clock the Bank of England withdrew its support. At the trading desks everyone just sat in stunned silence for about 2 to 3 seconds. That sense of awe that the markets could take on a Central Bank and actually win, I couldn’t believe it’’: Mark Clarke.
Clarke sold half a billion pounds that day. He made 10 Million for his bank.
The Long 3 Hour Silence
For 3 and half hours after the Bank withdrew the support for the Pound no one knew that the decision to take the UK out of the ERM was taken. Britain has just taken interest rates to unprecedented levels and no one was saying anything.
19:30 UK Chancellor Normal Lamont finally delivers the message
‘’Today has been an extremely difficult day. Massive speculative flows continued to disrupt the functioning of the ERM. The government has concluded that Britain’s best interests can be served by suspending our membership of the Exchange Rate Mechanism.’’
Soros’s Fund made over 1 Billion Dollars in profit by short selling Sterling.
‘’It was in excess of 1 Billion Dollars. Because we had a position of 10 Billion Dollars and the fall was over 10%’’: George Soros.
The UK Treasury estimated the cost of Black Wednesday to the taxpayers at 3.3 billion Pounds.