The Bank of England may need to cut interest rates if a “slow puncture” effect on the economy from Brexit uncertainty persists.
The view was expressed by one of the Bank’s rate-setters, Michael Saunders, just a week after the monetary policy committee (MPC) itself gave no indication following its latest meeting that borrowing costs could soon be cut.
The pound fell sharply on the back of the remarks.
He pointed to a marked slowdown in the economy on the back of Brexit jitters and the effects of the US-China trade war, a conflict that has hurt demand globally.
Michael Saunders joined the MPC in August 2016. Pic: BoE
He told a business event in Barnsley: “The economy could follow very different paths depending on Brexit developments.
“But in my view, even assuming that the UK avoids a no-deal Brexit, persistently high Brexit uncertainties seem likely to continue to depress UK growth below potential for some time, especially if global growth remains disappointing.
“In such a scenario – not a no-deal Brexit, but persistently high uncertainty – it probably will be appropriate to maintain an expansionary monetary policy stance and perhaps to loosen further.
“Of course, the monetary policy response to Brexit developments will also take into account other factors including, in particular, changes in the exchange rate and fiscal policy.”
Trade diverted from Dover ahead of Brexit
While taking questions from delegates, Mr Saunders suggested that he could support a rate cut at the next opportunity.
“If growth is weak for a while, below potential, spare capacity rises and down the road inflation undershoots.
“Our remit encourages us to steer against that,” he said.
:: Recession risk eases as economy returns to growth in July
Sterling tumbled by almost half a cent against the dollar to below $1.23 while it was also trading lower against the euro as investors distanced themselves further from the Brexit-hit currency.
The UK economy contracted by 0.2% in the second quarter – raising the risk of recession if growth was to remain negative in the current third quarter.
Economists widely expect that to be averted – just.
Which message is the public hearing on Brexit?
Following the MPC’s meeting last week, at which the MPC voted 9-0 to maintain rates at 0.75%, the Bank warned about damage from continued Brexit uncertainty but maintained its balanced view on possible rate shifts.
That is because a no-deal Brexit, in its eyes, would lead to a material fall in the value of the pound – pushing up prices.
But, in that scenario, raising rates to try and limit those extra costs may risk choking off activity in the economy – forcing a rethink.
What happens next with Brexit?
The Bank said then that a smooth Brexit would likely allow a resumption of a gradual rise in rates.
Neil Wilson, chief market analyst at Markets.com, said of the remarks: “Bank of England rate setter Saunders made pretty dovish comments, saying it’s quite plausible the next move is a cut.
“In making the case for a cut now it conforms to the belief in many in the market that the Bank is barking up the wrong tree with its slight tightening bias in its forward guidance.
“The comments from Saunders are clearly an added weight on the pound.”