Sterling hit a one-month low against the euro on Tuesday after reports that Brexit talks between Britain and the European Union are close to breaking down.
A deal is essentially impossible as German Chancellor Angela Merkel has told Britain's Prime Minister Boris Johnson that to do one Northern Ireland must stay in the European Union's customs union, a Downing Street source said.
The source said Merkel spoke to Johnson on Tuesday morning and made clear that a deal was "overwhelmingly unlikely."
The UK government source said that the call was a "clarifying moment" and that if it represents "a new established position, then it means a deal is essentially impossible not just now but ever."
The pound fell 0.5% to a one-week low of $1.2226, and weakened more than 0.7% against the euro, touching a low of 89.93 pence – its weakest level since Sept. 9 .
"The pound has taken a lurch lower as (reports say) there is no prospect of a deal," said Michael Hewson, chief market strategist at CMC Markets.
"It's reacting to the newsflow which is negative. But at some point it has to react to the reality which is that there will be an extension and elections," Hewson said.
The opposition Labour party said in a statement that Parliament should unite to prevent Britain crashing out of the EU at the end of the month.
Last week, Britain sent a proposal to Brussels to replace the Irish border "backstop" – an insurance policy to keep the border open between the Republic of Ireland and the British province of Northern Ireland – but this has been rebuffed by EU leaders.
Johnson has repeatedly vowed to take Britain out of EU on Oct. 31 even without a divorce deal in place, but a law called the Benn Act requires him to seek a delay if a deal is not agreed by Oct. 19.
The extent of potential damage from a no-deal Brexit was underscored by a report from the Institute for Fiscal Studies which said leaving without a deal would likely double Britain's budget deficit to around 100 billion pounds ($123 billion).
Other data showed companies' demand for new staff rose last month at the weakest rate in almost eight years.
The political jitters, as well as signs of a deteriorating economy, fueled a rally on British government bonds, with 10-year yields slipping more than 2 basis points to 0.425%, the lowest since early-September. (Reuters)