MNI INSIGHT: Lower UK Potential Growth May Impede Rate Cut

By David Robinson

     LONDON (MNI) - The Bank of England's January Inflation Report could ratchet

down estimates of the UK's potential growth, weakening the case for the monetary

easing expected by investors by early next year.

     SONIA benchmark rates price in a 34% chance of a 25-basis-point cut in

November, and fully price in such a move by March. The chances of a November

reduction in Bank Rate jumped from 19.5% on Sept. 26, the day before Monetary

Policy Committee member Michael Saunders said in a speech that policy easing

could be needed even if the country avoids a no-deal Brexit.

     High Brexit uncertainty is likely to persist no matter whether the UK

negotiates its exit from the EU, which, together with soft global activity,

might mean growth could remain stuck below potential, widening the output gap

and justifying easing, Saunders said.

     The BOE estimated the UK's potential for supply growth to have been around

an annual 1.5%, or 0.3 to 0.4% a quarter, following the Global Financial Crisis.

     This estimate might have to be reduced, Saunders noted, although he added

that interest rates might still have to be cut.

     UK's economy contracted by 0.2% in the second quarter and labour demand

softened.

     The BOE will revise its estimate of potential growth, along with those of

other equilibrium measurements, in next year's first Inflation Report. The more

this is reduced, the lower the margin for easier policy. Growth could also run

below even a lowered estimate of potential.

     Research by BOE economists and Stanford's Nicholas Bloom, published in

August, estimated that UK productivity may have fallen by anywhere between 2%

and 5% in the three years since the referendum vote to leave the EU.

     Worst hit have been higher productivity firms, which trade more with the

EU, as management devote more time to Brexit and investment grows more slowly.

     The Brexit shock seems to have had a more permanent impact than previous

episodes of uncertainty, although the research noted that, contrary to many

economists' expectations of a sharp fall in investment straight after the 2016

vote, this effect took three years to fully materialise.

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

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