MNI INSIGHT: BOE Set To Sketch Out Brexit Scenarios In Report

By David Robinson

     LONDON (MNI) - The Bank of England is likely to sketch out scenarios for

different Brexit outcomes in its August Inflation Report, but hold off from

providing full-blown, detailed forecasts for the economic fallout of a UK exit

from the European Union without a deal, MNI understands.

     Such scenarios would accompany but lack the detail of the Bank's central

forecast, which has until now assumed an average of possible negotiated

withdrawals from the EU, people familiar with the BOE's workings told MNI.

     Bank officials have become increasingly concerned that their central

forecast, which has to assume a negotiated deal because this is stated

government policy, has diverged from market expectations, as investors price in

a rising probability of a so-called hard Brexit, a tendency which has only been

exacerbated since Boris Johnson took over as prime minister earlier in July.

     This divergence detracts from the ability of the central forecast to act as

a guide to the Bank's thinking as it sets monetary policy. But providing a

series of parallel forecasts for different scenarios would also be problematic:

not only would it potentially drag the Bank into political debate, but it would

also run the risk of confusing investors, officials fear.

     Former BOE Deputy Governor Sir Charles Bean told MNI in an interview last

week that in current circumstances "scenarios are about the only useful thing

you can talk about," as there was no basis for attaching probabilities to the

kind of political events involved in Brexit.

     --INTEREST RATE FUTURES

     Some analysts have speculated that the Bank's Monetary Policy Committee

might simply adjust its forecasts for the sterling exchange rate to allow for

different Brexit outcomes, in a similar way to that in which it dealt on what

was then the upcoming referendum on EU membership in its May 2016 Inflation

Report. But Garry Young, who spent 17 years at the BOE and now leads the

National Institute of Economic and Social Research's work on macroeconomic

modelling and forecasting, pointed out that this time not only currency markets

but also interest rate futures are pricing in a high probability of No Deal.

     "It is difficult to disentangle these effects, but to do it would require

different exchange rate and interest rate profiles. So I don't think it would

make much sense to adjust only the exchange rate path," he told MNI.

     Another possibility might also be for the Bank to put aside any attempt to

incorporate market rate expectations and to highlight a forecast based on an

assumption that rates will remain unchanged.

     BOE Chief Economist Andy Haldane acknowledged the problem of the divergence

between the Bank's forecasts and market expectations in response to a question

from MNI following a speech last week.

     "The exchange rate has gone down, interest rates have gone down and that

risks a disconnect, a tension between the assumptions we make when we put the

forecast together ... and the reality of the situation," he said.

     But Haldane was guarded about which approach the MPC would use to help

reconcile those tensions, saying that it would explore "the sensitivities

around" its forecasts.

     Whatever the MPC does with its forecasts, it risks being overtaken by

events. It only incorporates asset prices and rate expectations for the 15

working days ending in the week before publication, meaning that this week's

slide in sterling, prompted by tough No Deal talk emanating from the government,

will not be factored in.

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

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