Thursday 22 March 2018

Q&A: How UK political drama touches its central bank

Theresa May leaves 10 Downing Street yesterday
Theresa May leaves 10 Downing Street yesterday

Lucy Meakin

The Bank of England is operating in an uncertain political climate following an election that weakened Prime Minister Theresa May and raised questions about the viability of the UK's Brexit strategy. While the economy proved resilient after Britons voted last year to leave the European Union, there are signs of strain. The minutes of the latest Monetary Policy Committee meeting showed a surprise 5-3 split in the decision to leave the key interest rate unchanged.

1. What did the BoE have to say about politics?

Not much. There was no mention in the minutes relating to last week's shock election result, in which the Conservatives lost their parliamentary majority. That is probably no surprise, as independent central bank policymakers would want to avoid controversy. But it really does matter for the BoE because the outcome of the vote has complicated the prospects for Brexit and that will have a material impact on the economic outlook.

2. So it sidestepped the issue?

When the BoE updated its economic forecasts in May, it said they were based on the assumption that Britain's adjustment to a new relationship with the EU would be "smooth" - avoiding a so-called cliff edge, in which the country leaves after the two-year negotiation period without a transitional arrangement.

That was always a big assumption and the new political landscape just adds to the muddied outlook.

The UK is supposed to leave the bloc by March 2019 and traders are back to pricing in a greater-than-even chance of a rate increase from August 2018.

3. What is the BoE's bigger concern?

Clearly, it's the economy and the trade-off between growth and inflation, although the latest minutes indicate a shift in that balance. Policymakers said inflation could overshoot the BOE's 2pc target by more than previously thought. So it seems very possible that at the next meeting in August we could see a letter from the governor to the Chancellor of the Exchequer.

He has to write one if inflation deviates more than 1 percentage point away from the target, explaining why and what he intends to do about it. With consumer prices rising 2.9pc in May, we're awfully close already. Meantime, wages aren't keeping up, and that causes concern for growth.

4. What's ahead for the BoE?

Personnel changes are coming. The normally nine-member committee is down one after Deputy Governor Charlotte Hogg was forced to resign in March and Kristin Forbes just attended her last meeting before returning to academia in the US. We don't know if Forbes, the panel's biggest hawk, will be replaced by August or if the other empty position, Hogg's, will have been filled either. So there could be a seven-member committee. This previously happened in 2006.

The Treasury makes these appointments, which need to be confirmed by a parliamentary committee, and Parliament is set to go into recess on July 20. So the pressure to act soon is on.

Irish Independent

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