- A bit of a bang from the Bank of England on 5 November as it delivered a larger than expected stimulus for the UK economy in the form of a further £150bn of asset purchases. As widely anticipated, there was no change to interest rates, which remained at 0.10%. Both decisions were the result of unanimous 9-0 Monetary Policy Committee (MPC) votes
- The MPC was prompted into providing further stimulus by the materialisation of some of the downside risks about which it had earlier expressed concern – most notably, renewed restrictions on activity due to rising COVID-19 cases
- The Bank of England significantly downgraded its projections for the UK economy for 2020 and 2021. It has put back its anticipated timing of when the economy will regain its 2019 Q4 level from the end of 2021 to Q1 2022. However, the GDP forecast for 2022 was increased significantly
- The MPC made it clear that it is willing to provide further stimulus to the economy, if and when it is required
- The EY ITEM Club believes a final dose of asset purchases is very possible in the early months of 2021 if the economy is still being affected by COVID-19 restrictions on activity. The absence of a UK-EU trade deal by 31 December, resulting in a switch to WTO rules, could also prompt further Bank of England asset purchases
- The Bank of England made no further comment on negative interest rates as its review into them continues. The EY ITEM Club remains dubious that the Bank of England will ultimately go down the negative interest rate road, although it now looks a significantly closer call. Some MPC members have publicly stated that there would be positives from such a move. However, a number of other MPC members appear to remain unconvinced
Howard Archer, chief economic advisor to the EY ITEM Club, says:
“There was a bit of a bang from the Bank of England on 5 November, as it announced an additional £150bn of asset purchases, which will take total purchases up to £895bn. This was larger than the consensus forecast of a £100bn increase. The Bank of England also opted to keep interest rates at 0.10%, which was widely anticipated. Both policy decisions were the result of unanimous 9-0 MPC votes, which, again, was of little surprise.
“The MPC had made it very clear at their September meeting that they were willing to provide more stimulus if necessary, and they were prompted into stronger-than-expected action as some of the downside risks facing the UK economy that had concerned them materialized. These most notably included renewed restrictions on activity due to increased COVID-19 cases, with a national lockdown in England being introduced from today until 2 December. There are also clear signs that the economy had lost momentum in October as other restrictions on activity had begun.
“The minutes of the November MPC meeting noted there were signs that consumer spending had softened while investment intentions remained weak. With COVID-related restrictions expected to weigh on activity, the Bank of England now sees GDP contracting in the fourth quarter.
“Consumer spending and GDP are expected to pick up in the first quarter of 2021 as restrictions on activity are eased. Nevertheless, the Bank of England sees GDP in the first quarter of 2021 around 9% lower than the level in the fourth quarter of 2019.
“A significant downside risk to the economy comes from the possibility that the UK and the EU may not conclude a free trade agreement by 31 December. The Bank of England assumes that the UK and EU will move to a free trade arrangement on 1 January, but UK GDP and trade will be affected by the adjustment as the UK leaves the Single Market and Customs Union.
“The Bank of England considers that over the remainder of the forecast period, GDP will recover further as the direct impact of COVID-19 on the economy is assumed to wane. Activity is also supported by the substantial fiscal policies already announced and accommodative monetary policy. The recovery will take time, however, and the risks around the GDP projection are judged to be skewed to the downside. This is reflected in significant downward revisions to the Bank of England’s GDP growth projections.
“The Bank of England stressed that the economic outlook remains “unusually” uncertain. The MPC also made it clear that they are willing to take further stimulus action if necessary, while any tightening of monetary policy remains a considerable way off.”
Bank of England significantly downgraded its outlook for the UK economy
Howard Archer continues: “In the November quarterly report, the Bank of England provided significantly downgraded indicative projections for the UK economy for 2020 and 2021. These new forecasts saw GDP contracting 11% in 2020 then growing 7.25% in 2021, 6.25% in 2022 and 1.75% in 2023. In its August quarterly report, the indicative projections saw GDP contracting 9.5% in 2020 then growing 9% in 2021 and 3.5% in 2022.
“This means that the Bank of England has put back its anticipated timing of when the economy will regain its level of the fourth quarter of 2019, from the end of 2021 to the first quarter of 2022.
“The unemployment rate is now seen reaching 6.25% in the fourth quarter of 2020, rising to a peak around 7.75% in the second quarter of 2021 before falling back to 6.75% in the fourth quarter of 2021, 5% in the fourth quarter of 2022 and 4.25% in the fourth quarter of 2023. In August, the forecasts had been 7.5% in the fourth quarter of 2020, falling back to 6% in the fourth quarter of 2021 and 4.5% in the fourth quarter of 2022.
“Consumer price inflation is seen as remaining around 0.5% over the winter. Headline inflation is then projected to rise in the spring as the VAT cut for the hospitality sector comes to an end and the large fall in energy prices from earlier in 2020 drops out of the annual comparison. Inflation is seen averaging 0.6% in the fourth quarter of 2020, 2.1% in the fourth quarter of 2021, 2.0% in the fourth quarter of 2022 and 2.1% in the fourth quarter of 2023.
“These forecasts are based on prevailing market interest rate expectations which saw interest rates becoming modestly negative in 2021.”
Bank of England still reviewing case for, and practicalities of, negative interest rates
Howard Archer continues: “There was no mention in the MPC minutes or in the Quarterly Monetary Policy of the possibility of negative interest rates.
“It is clear the Bank of England is not yet finished with its review of the case for negative interest rates and the practicalities of introducing them. The Prudential Regulation Authority (PRA) contacted commercial banks on 11 October requesting information on their operational readiness for a zero or negative Bank Rate and gave them until 12 November to respond. The Governor also stressed that the fact that banks were being asked about their operational readiness for negative interest rates should not be taken as a sign that they will be introduced.
“Meanwhile, opinion seems to be split within the MPC as to whether negative interest rates would be in the best interests of the UK economy. There have been cautiously positive comments made about negative interest rates from some MPC members, mainly with regard to their positive impact on boosting bank lending in other countries, although there is acknowledgement that the effectiveness of a negative interest rate is probably going to be contingent on the structure of the financial system.
“However, other MPC members have expressed doubts about negative interest rates, with Deputy Governor Dave Ramsden saying that they risk damaging UK banks’ capacity to lend and chief economist Andy Haldane observing that none of the conditions that would justify taking interest rates negative have been met.
“Meanwhile, the Bank of England Governor has observed that “Our assessment of negative interest rates, from the experience elsewhere, is that they probably appear to work better in a more wholesale financial market context, and probably better in a nascent economic upturn.””