Bank of England Set for Faster Rate Hikes If Brexit Resolved

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Mark Carney said the Bank of England would raise interest rates by more than investors are predicting if the U.K. successfully manages a smooth exit from the European Union.

“We're going through this period of uncertainty in the run up to some resolution around Brexit,” the BOE governor told reporters after policy makers unanimously kept rates on hold. If “that resolution is some form of arrangement, with some form of relatively smooth transition to it, it will require interest rate increases over that period and it will require more and more frequent interest rate increases than the market currently expects.”

Before Carney spoke, investors were predicting only one more quarter-point hike between now and 2021. That path is "unequal" to achieving the BOE's inflation remit, the Governor said.

The comments came as the bank published new economic forecasts for the first time since the deadline for the U.K. to leave was extended to October. The economy has been hobbled by the uncertainty, leading to a year of falling investment, and the minutes said the timing and nature of Brexit remained the biggest factor for the outlook.

The BOE's forecasts were relatively upbeat, projecting that unemployment will fall further and the economy will generate more excess demand than previously predicted, while at the same time cutting the near-term inflation outlook.

“There remained mixed signals from indicators of domestically generated inflation and the cost of waiting for further information was relatively low,” the minutes of the meeting said. At the same time, “an ongoing tightening of monetary policy over the forecast period, at a gradual pace and to a limited extent, would be appropriate.”

What Bloomberg's Economists Say
“The tweaks to its economic forecasts suggest the next move in interest rates remains some way off. We expect another hike in the second quarter of 2020.”
--Dan Hanson and Niraj Shah, economics
Click here for the full note.

Carney emphasized in the press conference after the decision that the economy is far from clear of Brexit-related risks. “No deal is the default outcome in the legislation and we know that at times, in the run-up to March 29, the probability of no deal was quite significant,” he said. “The process is not yet concluded, and until it's concluded there will be a chance of no deal.”

The vote was 9-0 to hold at 0.75 percent and to keep the asset purchase program unchanged. All 62 economists in a Bloomberg survey correctly predicted Thursday's decision.

The pound was choppy after the decision, advancing initially before reversing gains. Investors in the money market now see little more than a 30 percent chance of a 25-basis point rate increase by the end of the year, compared with 35 percent before the decision.

The forecast for GDP expansion this year was lifted to 1.5 percent from 1.2 percent because of a stronger first-quarter performance as companies stockpiled for Brexit. Officials now see the economy expanding 0.5 percent in the first three months of the year, up from 0.3 percent in March, with inventory building adding about 0.1 percentage point.

The BOE's slightly hawkish tone sets it apart from many of the world's biggest central banks. The Federal Reserve on Wednesday left rates on hold and said the next move could be a hike or a cut. The European Central Bank will offer new loans to help banks. The Bank of Japan last month reinforced a promise to keep rates at rock bottom.

Those changes have helped ease global financial conditions, and there are signs that global trade is stabilizing, Carney said. Trade tensions have “at least for now” abated somewhat, he said, and activity seems to be stabilizing in major economies.

Carney said that while BOE and Fed interest rates are typically highly correlated, that's not the case right now and “you can probably think of a pretty good reason why.”

Should the uncertainty surrounding Brexit dissipate, the BOE's estimate of the neutral rate of interest -- the rate which neither stimulates nor reins in the economy -- would likely go up. “That is not something that is facing, to my knowledge at least, either the Fed or the ECB,” he said.

--With assistance from Ven Ram, Zoe Schneeweiss, Brian Swint, Catherine Bosley, Stuart Biggs, Andrew Atkinson and William Horobin.

To contact the reporters on this story: Jill Ward in London at jward98@bloomberg.net;Lucy Meakin in London at lmeakin1@bloomberg.net;David Goodman in London at dgoodman28@bloomberg.net

To contact the editor responsible for this story: Paul Gordon at pgordon6@bloomberg.net