At this morning’s level of 77.5, sterling’s effective exchange rate has fallen by almost 4% since MPC member Paul Fisher decided to confide his QE2 leanings to the Daily Mail a month ago. Was this the intended result? With the short-term inflation outlook improving at the margin as global commodity price pressures abate, Mr Fisher and his fellow MPC doves may think it opportune to launch another assault on the exchange rate in pursuit of the holy grail of “rebalancing” and manufacturing resurgence.

The effective rate is rapidly closing on its 10 March trough of 76.8, below which the next obvious stopping point is the all-time low of 73.7 reached in December 2008.

A post in January argued that the MPC’s policy inaction in the face of a continued inflation upswing risked a “double dip” in sterling as real interest rates moved deeper into negative territory. A comparison was drawn with the 1970s, when the exchange rate entered a second leg down after a year-long period of stability as the inflation / interest rate gap was similarly allowed to widen.

Sterling’s recent sideways trading has lasted much longer – two and a half years – but MPC members are deluded if they think this stability would survive the launch of QE2. The chart – an update from the previous post – overlays exchange rate performance during the 1970s on recent movements and is showing ominous signs of reconnection with the earlier debacle. (The chart aligns the peak in December 1971 with July 2007, which marked the start of sterling’s first plunge. July 2011 is the equivalent of November 1975.)