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Carney’s BOE Forecasts in Doubt With Brexit Deadline Drawing Closer

Carney’s BOE Forecasts in Doubt With Brexit Deadline Drawing Closer

  • Central bank predictions are based on an average of outcomes
  • BOE is updating inflation, growth outlook with deal elusive
Hammond: U.K. Has Turned an Important Corner on Austerity

The Bank of England’s Brexit assumptions are looking increasingly doubtful as the clock ticks down to the U.K.’s departure date.

relates to Carney’s BOE Forecasts in Doubt With Brexit Deadline Drawing Closer

Mark Carney


As officials work with Governor Mark Carney on new economic forecasts for November’s Inflation Report, Prime Minister Theresa May has yet to nail down an agreement in negotiations with the European Union. That’s left the BOE basing its outlook on a premise that will most likely need rewriting as soon as any deal, or lack thereof, is announced.

In order to avoid making qualitative assessments on the state of the talks, the BOE’s forecasts are based off a Brexit with a smooth transition to an “average of a range of outcomes.”

With that approach, the projections, presented as fan charts, reveal little about the balance of risks around the different ways Brexit might pan out. The BOE’s supervisory arm has stress-tested banks based on a worst-case scenario, but the inflation forecasts are predicated on a better result for the U.K.

What’s more, the range they’re working with will become increasingly problematic as the March deadline approaches and various options are removed from the table.

Decision Timetable

“The hole they have themselves in is that they have assumed the risks are balanced, which seems an error,” said David Blanchflower, a professor at Dartmouth College who was a BOE policy maker between 2006 and 2009. “Risks are clearly to the downside. If there is no smooth path, a bad option is outside the fan.”

Read more: BOE asked for ‘full and frank’ Brexit analysis by Lawmakers

The quarterly forecasts matter because they are a central plank of the BOE’s assessment of the U.K. economy. The Monetary Policy Committee has already hiked interest rates twice in the past year as a result of its longer-term outlook for inflation.

“The fan charts are perfectly able, hypothetically, to deal with what the MPC is facing regarding Brexit,” said Tony Yates, a former senior adviser at the BOE. “But the way MPC has chosen to use them makes it very hard to read what they think about the risks going forward and what should be done about them. I think they have hiked based on an average, but just the wrong average.”

relates to Carney’s BOE Forecasts in Doubt With Brexit Deadline Drawing Closer

Brexit isn’t the only thing that could undermine this round of BOE forecasts. Chancellor of the Exchequer Philip Hammond presents the government’s Budget four days before the rate decision. If he makes big changes to spending plans, the bank won’t be able to take them into account because the market readings for the staff predictions will have closed.

On top of that, there’s the global uncertainty -- rising oil prices, the prospect of trade wars and the IMF cutting its prognosis for world growth.

With the U.K. set to formally leave the EU in March, both sides are hoping to make progress on the thorny issue of the Irish border in time for a summit on Oct. 17 and then seal the deal a month later. Despite the willingness to find agreement, there are still major differences to be resolved.

What Our Economists Say...

“By sticking to its current approach, the MPC is saying little about what it thinks is the most likely outcome of the Brexit talks. That’s unhelpful, especially when we can be pretty certain some options have been discarded.”

-- Dan Hanson, Bloomberg Economics

Financial markets are currently pricing in the BOE’s rate hike for May next year, although any concrete news could see that change quickly.

If a “super-charged’’ free trade deal is reached before the end of 2018, then a move could come as soon as February, according to Bloomberg Economics. Meanwhile, Carney himself warned senior ministers last month that rates could spike in the event of a no deal, although he and other BOE officials have also said such an outcome could have different implications for policy.

Brexit Fallout

Different paths for U.K. economic growth

Source: Bloomberg Economics

Note: Index level; 2Q 2016 = 100

The BOE has good reason for staying above the day-to-day swings of Brexit negotiations. Previous interventions from the central bank, and particularly from Carney, have drawn criticism from pro-Brexit lawmakers who see the institution as overly pessimistic. It also allows them to avoid assigning a probability of no deal -- which would reveal their assessment of the quality of the government’s strategy.

The current assumption is “a way of avoiding appearing to comment on the likely outcome of the government’s current course of action, which would seem like a criticism,” Yates said. “The politics of doing this are understandable, but it lessens the usefulness, coherence and clarity of the forecast.”