In Britain, Black Wednesday, which occurred on September 16, 1992, is now known as the day when speculators "broke the pound," which is an euphemism created to describe the moment in time when they came together to force the British government to pull the pound from the European Exchange Rate Mechanism (ERM). Joining the ERM was part of Britain's effort to help the unification of the European economies. However, in the imperialistic style of old, it became clear that Britain had tried to stack the deck. Black Wednesday is arguably a consequence of this effort.

Key Takeaways

  • September 16, 1992, known as Black Wednesday, was the day speculators forced the British government to pull the pound from the European Exchange Rate Mechanism (ERM). 
  • Britain joined the ERM in a concentrated effort to stimulate the unification of the European economies—an effort that unfortunately failed.
  • Leading up to the 1990s, the British pound had shadowed the German mark, which had the deleterious effect of spiking inflation in Britain.

Although it stood apart from European currencies, the British pound had shadowed the German mark in the period leading up to the 1990s, which unfortunately left Britain with low interest rates and high inflation. Britain entered the ERM with hopes of keeping its currency above 2.7 German marks to the pound. This was fundamentally unsound, mainly due to the fact that Britain's inflation rate was many times that of Germany's.

The underlying problems inherent in the pound's inclusion into the ERM was compounded by significant economic strain resulting from Germany's reunification. This, in turn, put pressure on the mark as the core currency for the ERM. The drive for European unification also hit bumps along the road during the passage of the Maastricht Treaty, which was meant to bring about the Euro. Speculators began scrutinizing the ERM, causing them to start wondering how long fixed exchange rates could fight natural market forces.

The Maastricht Treaty was created as a follow up to earlier treaties establishing the European Communities (EC), which were the EU's first pillar.

Spotting the writing on the wall, Britain upped its interest rates to the teens in an effort to attract more people to the pound. Unfortunately, speculators such as George Soros began to heavily short the currency. Consequently, the British government gave in and withdrew from the ERM, once it became clear that it was losing billions of pounds, in its attempt to artificially buoy its currency to higher levels.

Although this was a difficult situation, the pound came back stronger because excess interest and high inflation were subsequently forced out of the British economy. Soros pocketed $1 billion on the deal and cemented his reputation as the premier currency speculator in the world. (For more on Soros' feat against the British pound, check out The Greatest Currency Trades Ever Made.)