- The Bank of England's Monetary Policy Committee (MPC) looks set to remain in ‘wait and see’ mode at its upcoming 17 September meeting
- The EY ITEM Club expects unanimous 9-0 votes for keeping both interest rates at 0.10% and the planned stock of asset purchases unchanged at £745bn
- Economic bounce back in Q3, easing lockdown measures, and the Summer Statement’s extra fiscal support preclude a need for further MPC stimulus for the time being – but the MPC left door open to additional stimulus at its August meeting
- In August, the MPC was less pessimistic about the economy in the near term, but appeared less upbeat about the longer-term. Uncertainties over an EU-UK trade deal and rising COVID-19 case numbers may support this assessment. There is also a risk of a marked rise in unemployment once the furlough scheme ends
- The EY ITEM Club believes the Bank of England will ultimately decide that it has a further role to play in building a sustainable recovery amid likely still challenging and uncertain conditions. It expects the Bank of England to announce further asset purchases, most likely at the November or December MPC meetings, in the region of £100bn. This would take the total up to £845bn
- The EY ITEM Club remains doubtful that the Bank of England will cut interest rates below 0.10%. While the Bank continues to review the case for negative interest rates, the EY ITEM Club suspects the MPC will maintain the view that such a move is not in the best interests of the UK economy
Howard Archer, chief economic advisor to the EY ITEM Club, says:
“The September meeting of the Bank of England’s Monetary Policy Committee (MPC) looks highly unlikely to deliver any change in any aspects of monetary policy. There look to be compelling reasons for the MPC to retain a ‘wait and see’ stance on policy and it would be quite a surprise if there was anything else than unanimous 9-0 votes for keeping interest rates at 0.10% and the planned stock of asset purchases at £745bn. This would replicate both the August votes.
“With GDP growth of 6.6% month-on-month in July reinforcing belief that the economy is set for a strong bounce back in Q3, the Chancellor having announced extra support for the economy in July, and with planned asset purchases currently seen sufficient to last to the end of the year, there seems little need for further MPC stimulus action – for the time being at least. It currently looks very possible that GDP growth in Q3 could be around 15% following the record 20.4% contraction in Q2.
“At its August meeting, the MPC largely came across as more upbeat about the economy’s current performance and it also observed that the Chancellor’s stimulus measures in his Summer Statement are likely to further boost consumer spending and the housing market. Nevertheless, the MPC noted that business investment was likely to have fallen in Q2 and that surveys indicated that investment intentions are weak.”
“The MPC had uncertainties about the longer-term outlook at its August meeting, and said it expects that the economy is unlikely to regain its end-2019 size until the end of 2021. The MPC had previously expected the economy would regain its Q4 2019 size during the second half of 2021.
“The MPC also noted that its Regional Agents expressed concern about the demand outlook, citing concerns about a potential rise in unemployment and a resurgence of COVID-19 cases, and uncertainty regarding the EU and UK’s future trading relationship.
“Recent developments in the EU-UK trade negotiations and a renewed tightening of social contact restrictions may add to uncertainties about the outlook. Additionally, there is the possibility of a significant rise in unemployment once the furlough scheme ends in October. Although hard data show unemployment has so far not risen as much as had been predicted, this is partly due to many people not looking for jobs and so not being counted as ‘unemployed’.”
“The MPC also considered there was a significant downside risk to the outlook coming from the possibility that conditions of persistent uncertainty could create strong incentives for households and companies to defer major spending decisions and focus on balance sheet resilience.”
Door left open for additional further stimulus
Howard Archer continues: “The conclusions of the August MPC meeting made it clear that the Bank of England is keeping the door open to further stimulus, with a commitment to “continue to monitor the situation closely and [stand] ready to adjust monetary policy accordingly to meet [the MPC’s] remit.”
“However, the MPC indicated that any tightening of monetary policy was some way off as it added that “the Committee does not intend to tighten monetary policy until there is clear evidence that significant progress is being made in eliminating spare capacity and achieving the 2% inflation target sustainably.””
Bank of England likely to deliver further asset purchases later this year but is unlikely to cut interest rates
Howard Archer adds: “While the EY ITEM Club expects the economy will see a return to growth in Q3, with GDP expansion very possibly getting up to around 15% quarter-on-quarter, growth is likely to slow in Q4 as unemployment rises and support from pent-up demand wanes. Uncertainties regarding the future UK-EU trading relationship could also affect economic activity, as could increased restrictions caused by rising COVID-19 case numbers.
“Next week, it is very possible that MPC members will maintain concerns about the longer-term outlook for the UK economy.
“Consequently, the EY ITEM Club believes the Bank of England will ultimately decide that it has a further role to play in helping the economy build a sustainable recovery amid likely still challenging and uncertain conditions. The Bank is likely to announce a further dose of asset purchases, most likely at the November or December MPC meetings, and in the region of £100bn. This would take the total up to £845bn.
“However, the EY ITEM Club remains doubtful that the Bank of England will cut interest rates below 0.10%. Despite the Bank continuing to review the case for negative interest rates, the EY ITEM Club suspects that the MPC will maintain the view that such a move is not in the best interests of the UK economy.”
Review into negative interest rates and other policy instruments
Howard Archer comments: “The Bank of England is holding a review into the case for negative interest rates and other policy instruments. The Bank has observed that, over time, the effective lower bound (ELB) for interest rates can change, noting that in the aftermath of the global financial crisis, the MPC judged that the ELB for Bank Rate was 0.5%. In 2016, it judged that the ELB had fallen to “close to, but a little above zero.” Those judgements were based on evidence about how any further rate cuts might be passed through to the economy at that time, and the risks they might pose to the financial sector.
“Regarding the current situation, the Bank observed in August that the MPC has other instruments available – for example, asset purchases and forward guidance. The MPC said it will continue to assess the appropriate monetary policy stance and will keep the appropriate tools for achieving its remit — including negative policy rates — under review.”
Key quotes from the MPC’s August meeting
On the economic outlook
“Although recent developments suggest a less weak starting point for the Committee’s latest projections, it is unclear how informative they are about how the economy will perform further out. The outlook for the UK and global economies remains unusually uncertain. It will depend critically on the evolution of the pandemic, measures taken to protect public health, and how governments, households and businesses respond to these factors.”
Reports from regional agents
“There was a common fear of a large rise in unemployment, and apprehension about the possibility of a resurgence in Covid-19 cases, which might harm consumer confidence and lead to the re-imposition of restrictions on some activities. In addition, some contacts were concerned about uncertainties regarding the UK’s new trading relations with the European Union and some other countries from January 2021, and worried about possible disruption around their introduction.”
On negative interest rates
“At present, banks’ balance sheets will be negatively affected by the period of severe economic disruption arising from Covid-19. And they have an important role to play in helping the UK economy recover by providing finance for individuals and companies. As a result, negative policy rates at this time could be less effective as a tool to stimulate the economy. That said, the wider economy and banks’ balance sheets would be boosted by stimulus. The net effect of negative policy rates depends on these, among other, factors.”