The pound spiked against the dollar and euro on Thursday after the Bank predicted Britain’s economy would grow by 1.4 per cent next year, almost double the 0.8 per cent it predicted just three months ago, reports The Telegraph.
This represents the biggest upgrade the Bank has ever made to its forecasts.
As a result there is no longer any need to cut interest rates further or to increase the current programme of quantitative easing, the rate-setting Monetary Policy Committee said.
In August the MPC, led by Governor Mark Carney, cut interest rates from 0.5 per cent to 0.25 per cent and indicated it would cut rates again this year.
“Output growth was expected to be stronger in the near term, reflecting the resilience in particular of indicators of household spending and sentiment,” the MPC said as it acknowledged the economy’s strong performance since June. “All MPC members agreed that the guidance it has issued following its August meeting regarding the likelihood of a further cut in Bank Rate had expired.”
Depending on future inflation and growth levels, the next interest rate move could be up or down.
“The future path of monetary policy would depend on the evolution of the prospects for demand, supply, the exchange rate and therefore inflation,” the MPC said in the minutes of its latest meeting.
“Monetary policy could respond, in either direction, to changes to the economic outlook as they unfolded to ensure a sustainable return of inflation to the 2 per cent target.”
Strong spending from households means the economy will grow at 2.2 per cent this year, not the 2 per cent previously predicted.
The Bank no longer expects spending on housing to fall next year, and it also now believes exports will rise, in part bolstered by the falling pound – also reversing a previous forecast that exports would drop in 2017.
In the longer term, however, there is still substantial uncertainty, and the economy is not forecast to recover its 2016 pace of growth.
Higher import prices due to the falling pound will push up inflation to 2.7 per cent in both 2017 and 2018, slipping a touch to 2.5 per cent in 2019 – the longest period of above-target price rises ever predicted by the Bank.
That will mean prices growing almost as fast as wages, forcing households’ real spending power growth to slow to just 0.5pc next year. As a result shoppers will be less able to drive the economy forward.
Mr Carney has previously said the Bank is willing to “look through” a one-off rise in prices caused by a falling pound, so that higher interest rates do not harm economic growth. But the MPC today warned “there were limits to the extent to which above-target inflation could be tolerated”.
Employment growth will halt in 2017 before recovering only slowly in 2018 as cautious companies cut back hiring, the Bank predicts.
As the population continues to grow, this means unemployment is forecast to creep up to 5.5 per cent.
Uncertainty over future growth and the UK’s trading relationship with the EU will continue to damage business investment, the Bank believes, as the Article 50 process of leaving the EU will kick off by the end of March 2017.
As a result the longer-term outlook is weaker. The Bank expects the economy to grow by 1.5 per cent in 2018, down from its August forecast of 1.8 per cent.
Overall the Bank has cut its GDP forecasts for the three-year period by almost 3 per cent since the referendum.
The Bank’s deputy governor for financial stability, Jon Cunliffe, told leading City figures that London could lose some wholesale financial services business because of Brexit. He insisted that withdrawal from the EU would not be a “zero-sum game”, and in the past has said that New York could take over some business from London.
The new forecasts come at a critical time for Mr Carney.
His downbeat forecasts earlier in the year earned him criticism from some Conservative politicians who backed Brexit, accusing him of politicising the Bank of England.
The resilience of the economy has also called into question the Bank’s forecasting capabilities.
Prime Minister Theresa May criticised the “bad side effects” of ultra-low interest rates last month, in a speech which was perceived as an attack on the MPC’s independence.
At the start of this week the Governor agreed to stay in his job until mid-2019 – one year longer than he initially planned, but still two years shorter than the eight year term with which the position was advertised.
That means he will leave in the months after Brexit takes place, and when some of the risks discussed by the MPC could be crystallizing.