The Bank of England needs to hike at least 300 bps more, says ex-MPC member Posen
(Repeats article first published on June 14)
The Bank of England will have to raise interest rates more than expected, likely pushing the UK into recession, as global price pressures are compounded by the inflationary effects of Brexit, former Monetary Policy Committee member Adam Posen told MNI.
Brexit has made supply issues related to the Covid pandemic worse, generating impediments to trade just as the UK tackles the wave of global inflation, Posen said.
“My fear and my strong expectation is that Great Britain is going to have to go through a real recession irrespective of what happens in the U.S. and China, that they’re going to have to raise rates another 300 basis points-plus from here,” he told MNI’s FedSpeak podcast.
While market expectations factor in another 250 basis points of tightening before Bank Rate peaks at around 3.5% next May, calculations using a National Institute of Economic and Social Research model indicate the BOE may only have to hike by about 80 points from the current 1%, unless second-round inflationary effects take off. (See MNI INSIGHT: BOE Multipliers Imply Rate Expectations Overblown)
But Posen said more hikes are likely.
“The Bank of England’s MPC has been indicating they don’t think they need to go that far,” he said. “The debate seems to be about how fast they need to go another say 50 or 100 basis points from here. I hope they’re right but I doubt that’s going to be enough.”
Brexit effects will amplify the transmission of inflation as expectations become less anchored, said Posen, who is president of the Peterson Institute for International Economics.
“The UK has the worst of both worlds – they’ve got a U.S.-looking labor market for all these idiosyncratic reasons but they didn’t have all the fiscal support that the U.S. did. That’s consistent with a world in which the UK is partly back to the 1970s,” he said.
U.S. SOFT LANDING STILL POSSIBLE
In the U.S., the Fed still has a window of opportunity to achieve a soft landing, Posen said, but added that the path for such an outcome is narrow – and all the more so after last week’s higher-than-expected 8.6% CPI print.
“People were expecting inflation to peak in the U.S., core inflation to peak, around now or the next couple of months, and that’s looking less likely,” he said. “I still think there’s a little better than 50% (chance) they will be able to achieve a soft landing, in which case they will be raising rates through the second quarter of next year and stop around 4%.”
At the same time, he added, a scenario where inflation fails to come down might spur the Fed to be even more forceful. In that case, Posen sees the fed funds rate potentially having to climb past 5% to ensure real borrowing costs turn positive. His remarks came before a late surge in speculation that the Fed might hike rates by a more-than-expected 75 basis points this week.
POSITIVE ON EAST ASIA
China’s economy, though, may already have hit bottom and may avoid a recession despite draconian Covid shutdowns that have crimped economic activity.
“The worst-case scenarios of recession in China and of supply chain disruptions coming out China seem to be abating,” Posen said.
Asked about a falling yen and the prospect that Japan’s government might intervene, Posen said it was unlikely even if the prospect could not totally be ruled out.
Finance ministry intervention while the central bank holds onto ultra-easy policy would not likely have the desired effects, and Japan would also be cautious not to upset major trading partners, he said, calling the notion that Asia risked a 1990-style financial crisis because of a plunging yen, as suggested recently by British economist Jim ‘O Neill, “wildly misplaced.”