UK Trade: Exports, Imports, and the Exchange Rate Problem

Apr 13, 2019
Economics

This is post 13 in a series on Trading Economics: A Guide to Economic Statistics for Practitioners & Students by Trevor Williams and Victoria Turton (Wiley Finance, 2014, ISBN: 978-1-118-76641-5).

The UK has a trade problem. It buys more from the rest of the world than it sells. And it has been doing this for a long time.

In the previous post, we looked at how trade works at a global level and what the balance of payments actually measures. Now let’s zoom in on the UK specifically. What does Britain export? What does it import? And can a weaker pound fix any of this?

Breaking Down the UK Current Account

The current account has four parts. Each one tells a different story about the UK’s relationship with the rest of the world.

Trade in Goods: The Chronic Deficit

The UK imports more physical goods than it exports. This has been the case for decades. Manufactured products, food, fuel, raw materials. Britain buys a lot of stuff from abroad.

This isn’t surprising when you think about it. The UK went through deindustrialization starting in the 1980s. A lot of manufacturing moved overseas to countries with lower costs. So the UK now imports many of the physical goods it used to make domestically.

Trade in Services: The Persistent Surplus

Here’s where the UK shines. Financial services, legal services, consulting, education, insurance. London is a global financial center. British universities attract students from everywhere. UK law firms and consultancies have worldwide reach.

The services surplus is real and it’s consistent. The UK is genuinely good at selling services to the rest of the world.

Investment Income: From Surplus to Deficit

This one is interesting. The UK used to earn more from its investments abroad than foreigners earned from their investments in the UK. That made sense. Britain had a long history of investing overseas, going back to the Empire days.

But around 2012, that flipped. Returns on UK investments abroad fell. At the same time, foreign investors in the UK were doing pretty well. The result was a shift from surplus to deficit in investment income.

Transfers: Always a Deficit

Transfers include things like government payments to the EU, foreign aid, and remittances sent home by foreign workers. This has always been a deficit for the UK. Money flows out.

Who Does the UK Trade With?

Europe is the biggest trading partner by far. That shouldn’t surprise anyone. Geography matters in trade. Shipping goods across the English Channel is a lot cheaper than shipping them across the Pacific.

The top export destinations are the US, Germany, the Netherlands, and France. So it’s basically America plus the big European economies.

What Does the UK Actually Export?

Manufactured goods, machinery, chemicals, and oil. Yes, oil. The UK has North Sea oil production, and petroleum products are a meaningful chunk of exports.

Chemicals are another strength. Pharmaceuticals in particular. Companies like GlaxoSmithKline and AstraZeneca are major exporters.

But here’s the thing. Many of these exports require imported raw materials and components to produce. The UK doesn’t just make stuff from scratch. It imports materials, adds value, and exports the finished product. This matters a lot when we talk about the exchange rate later.

What Does the UK Import?

Manufactured goods (again, the UK imports a lot of the same categories it exports), food, fuel, and raw materials. The UK isn’t self-sufficient in food. It isn’t self-sufficient in energy either, despite North Sea oil. And it needs raw materials from around the world to feed its manufacturing and services industries.

The Core Problem: Services Can’t Cover Goods

Here’s the structural issue. The UK needs its services surplus to offset its goods deficit. That’s the basic math of the current account.

But the services surplus just isn’t big enough. The deficit in goods is larger than the surplus in services. Add in the investment income deficit and the transfers deficit, and you get a current account that’s firmly in the red.

The UK has been running a current account deficit for years. It’s not a crisis in the short term. Countries can run deficits for a long time as long as foreign investors are willing to fund them. But it does mean the UK is living beyond its means in a trade sense. It consumes more than it produces.

Would a Weaker Pound Help?

This is the question everyone asks. If the pound falls, UK exports become cheaper for foreign buyers. Imports become more expensive for UK consumers. In theory, that should help close the trade gap.

And there’s some truth to that. A weaker pound does make UK exports more price-competitive. After the pound fell sharply following the 2008 financial crisis, there was some improvement in the trade balance.

But here’s the problem. It’s not that simple.

The Import Content of Exports

Remember how UK exports require imported materials and components? When the pound falls, those imported inputs get more expensive too. So the cost of making UK exports goes up at the same time that foreign buyers are supposed to be getting a bargain.

The net effect is smaller than you’d think. A 10% fall in the pound doesn’t give UK exporters a 10% price advantage. Some of that is eaten up by higher input costs.

Imported Inflation

A weaker pound means everything the UK imports costs more. Food, energy, consumer goods. This feeds directly into higher prices for UK consumers. So a weaker pound is basically a pay cut for everyone in the country, measured in terms of what their money can actually buy.

The Bank of England then has to worry about inflation rising. If they raise interest rates to fight that inflation, it can slow down the economy and offset any trade benefits from the weaker currency.

Competitiveness Isn’t Just About Price

Here’s the deeper point Williams and Turton make. Real competitiveness comes from productivity and innovation. Not from having a cheap currency.

Germany has had a strong currency (first the Deutschmark, then the euro) for decades. Yet Germany runs massive trade surpluses. Why? Because German products are high quality and in demand regardless of price. People buy German cars and machinery because they’re good, not because they’re cheap.

The UK needs to compete on quality, technology, and innovation. Relying on a weak pound is a band-aid, not a solution. It makes everyone poorer in real terms while papering over the structural weaknesses in the economy.

Double-Entry Recording: Every Transaction Has Two Sides

One technical point worth understanding. The balance of payments uses double-entry bookkeeping. Every transaction creates both a credit and a debit.

If the UK buys a German car, that shows up as a debit in the trade account (goods imported). But the payment for that car shows up as a credit in the financial account (money flowing to Germany creates a financial claim).

This is why the balance of payments always balances in theory. The current account deficit is matched by a financial account surplus. Money that flows out to buy imports flows back in as investment. Foreign investors buy UK government bonds, London property, and shares in UK companies.

The balancing act works as long as foreigners want to invest in the UK. If they ever stop wanting to, that’s when a current account deficit becomes a real problem.

How Trade Data Helps Investors

Trade data isn’t just academic. It gives investors concrete signals about three things.

Currency direction. A widening trade deficit puts pressure on the pound. More money flowing out than coming in means selling pressure on the currency. Investors watch trade data closely for hints about where sterling is headed.

Export sector health. Rising exports suggest UK manufacturers and service providers are winning business abroad. That’s good for companies in those sectors and for the economy overall. Falling exports are a warning sign.

Inflation outlook from import prices. If import prices are rising, that’s going to show up in consumer inflation eventually. Trade data gives an early read on imported inflation pressures.

The Big Picture

The UK’s trade position is a mirror of its economic structure. Strong in services, weak in goods. Dependent on foreign investment to fund the gap. Vulnerable to exchange rate swings in ways that aren’t always obvious.

Global competition is intensifying. China, India, and other emerging economies are moving up the value chain. They’re not just making cheap goods anymore. They’re competing in services, technology, and advanced manufacturing.

For the UK, the path forward isn’t about finding the right exchange rate. It’s about building an economy that produces things the world wants to buy, at a quality level that commands a premium. The services sector is already there. The challenge is broadening that success.

Previous: Global Trade and Balance of Payments Explained

Next: Trading Economics: Final Thoughts and Key Takeaways

Trading Economics Series Index

This post is part of a 14-post series on Trading Economics by Trevor Williams and Victoria Turton.

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