Black Wednesday refers to September 16, 1992. This proved to be the day that Britain was forced to withdraw from the European Exchange Rate Mechanism system of currency band pegs. The same day it had to allow the pound to be devalued by 15%. The catastrophe for the Bank of England and British government occurred only two years after British sterling had become a member of the long running EU ERM in 1990.
From the beginning of becoming a member of the Exchange Rate Mechanism, British Prime Minister John Major had struggled to keep the pound within its designated floating band. The weekend following Wednesday September 16 was to be a French referendum on the Maastricht Treaty. Polls showed 58% of the French were against closer economic and political union with the rest of the EU. This had put markets on edge and increased the pressure on the pound, considered to be the weakest member of the fledgling monetary union.
The European ERM system mandated that governments keep their participating currencies within a band pegged to other currencies in the system. In order to hold these values steady compared to each other, countries with the more valuable currencies were supposed to sell their own currency and purchase the weakest ones.
In September of 1992, the British pound turned out to be the weakest in its band while the German Deutschmark remained the most powerful currency. In fact it was not only the British pound struggling ahead of the French referendum. The Spanish peseta and Italian lira were also falling under intense pressure. The pound had the misfortune of getting the most media attention.
The antagonist in the day’s bloodbath turned out to be currency hedge fund speculator George Soros. He and his Quantum Fund took on the Bank of England directly in the currency markets. He accomplished this by borrowing UK gilts bonds and selling them. He then purchased them back moments later for lower prices. Soros and other speculators following his lead were able to repeat this action every couple of minutes and turn a profit with every trade. Soros later explained how he had earned £1 billion (British pounds) by selling the pound sterling he never even owned.
The pressure grew throughout the day as the Bank of England kept purchasing British pounds in an effort to support their price within the band. At middle of the morning, Bank of England officials had to purchase £2 billion every hour in order to defend against the global speculators’ selling pressure.
They also pushed interest rates up to 12% in an effort to support the pound. Prime Minister Major refused to accept defeat easily and later that day raised British interest rates higher to 15%. By the time currency markets closed in London, the pound still remained outside of its required currency band.
At 7:40 pm that night, the government announced Britain had suspended membership in the ERM. It was never to re-enter it. The entire European Exchange Rate Mechanism came close to the edge of collapse over the shock announcement and sudden withdrawal.
The EC monetary committee entered crisis talks to keep the system together. It later emerged that the German Bundesbank had failed to keep up its end of the ERM agreement by selling marks and buying pounds on the critical day. Britain had spent nearly £10 billion, roughly a quarter of their reserves, in efforts to defeat the currency speculators.
Thirteen years after Black Wednesday, the Treasury released papers that proved the Bank of England lost £3.3 billion in the day from the continuously declining value of their own currency they kept purchasing.