MNI ANALYSIS: BOE Forecasts To Assume Average Brexit For Now

--BOE Wouldn't Set Negative Bank Rate In Cliff-Edge Brexit

     LONDON (MNI) - While recent comments by European officials have raised

hopes of an agreement on the UK's withdrawal from the EU, the Bank of England is

not about to incorporate a firm view of the consequences of Brexit into its

economic forecasts until a deal is in the bag or discarded.

     Even if the EU and UK were to reach a pact, including a transition period

up until December 2020, and a non-binding political declaration outlining future

trading arrangements, the Bank would be loath to narrow down its estimates of

Brexit's economic fallout until the UK parliament had granted its approval -

something which could take weeks or months.

     Instead, in its Inflation Report Nov. 1, which comes ahead of a special

European Council Nov. 17-18 that could potentially sanction a withdrawal

agreement, it will continue to use an average of Brexit outcomes as the basis

for its forecasts. This is an outcome guaranteed not to occur.

     --MAINTAIN CREDIBILITY

     Only if a scenario were to become overwhelmingly likely would the Bank feel

compelled to alter its stance, or else risk a loss of credibility for its

forecasts, and with them for its monetary policy outlook. "Right now we are not

at the point," monetary policy committee member Gertjan Vlieghe said Sept. 25.

     European Commission President Jean-Claude Juncker and Council President

Donald Tusk have sounded a more optimistic note over negotiations in recent

days, predicting an exit deal and a declaration about future relations this

year.

     Should they prove wrong, and talks fail, the effect on forecasts, which

currently predict GDP growth of 1.77% in Q4 2019 and inflation of 2.17%, would

be far more dramatic than in the case of a successful agreement, which would

allow business to carry on in a way closer to current arrangements.

     When UK voters narrowly backed Brexit in a June 2016 referendum, the MPC

cut its benchmark interest rate by 25 basis points and began GBP70 in

quantitative easing. But things were different then. The economy had spare

capacity and the MPC predicted a sharp slowdown -- something which never

materialized.

     This time round, MPC members caution market participants should not assume

a cliff-edge Brexit, in which the UK leaves the EU in March 2019 with no deal,

will prompt fresh stimulus.

     The MPC assumes there is next to zero spare capacity at present and that

the economy is moving into excess demand.

     --DON'T BET ON BREXIT RATE CUT

     "It is genuinely two-sided which way we are going to act. And how we will

react will depend on that balance of demand, supply and the exchange rate just

as it did pre-referendum," Bank Chief Economist Andrew Haldane said Sept. 27.

     Also, in 2016, businesses were only responding to an indeterminate Brexit

at an indeterminate date in the future.

     "Unlike the referendum, if this is Brexit for real rather than just the

possibility of Brexit, it would have real effects on ... our supply side

capacity if it was disorderly," Haldane said.

     A substantial supply side hit would not be readily compatible with fresh

stimulus.

     If the MPC did act, it could cut Bank Rate from its current 0.75% to near

zero but not lower, as UK lenders, unable to cut deposit rates as far as lending

rates, could see their balance sheets hit hard.

     "As long as institutions have those kinds of balance sheets our judgement

is we don't want to take the policy rate below zero," Vlieghe said. "Balance

sheets tend to change very slowly so I don't imagine we'll change our minds

about that over a matter of quarters."

     If the going did get really rough the MPC would, albeit reluctantly, be

able to re-launch QE, having just finessed its plans for unwinding it - a

process which was meant to start when Bank Rate rose to 1.5%.

--MNI London Bureau; tel: +44 203-586-2223; email: david.robinson@marketnews.com

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