BrexitNov 29 2018

Bank's forecasts dismissed as 'bogus' by former rate setter

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Bank's forecasts dismissed as 'bogus' by former rate setter

The Bank of England’s forecasts about the economic consequences of Brexit have been dismissed as "bogus" and politically motivated by Andrew Sentance, a former Bank of England official and government adviser.

In analysis published on November 28, the Bank of England said a Brexit outcome which involved no transition period and no deal, would see GDP 10.5 per cent lower over a five-year period than would otherwise have been the case.

The bank said the present deal, on which MPs will vote next month, would also reduce GDP.

The figures are in comparison with the Bank's GDP forecasts prior to the Brexit vote. The central bank has previously stated that the economy was 2 per cent smaller today than it would have been if the vote had not happened.

Mr Sentance said: "The reputation of economic forecasts has taken a bad blow today with both UK government and Bank of England appearing to use forecasts to support political objectives. Let's debate Brexit - which I strongly oppose - rationally without recourse to bogus forecasts."

He added: "The analysis is highly speculative and extreme. It will add to the view that the Bank is getting unnecessarily involved in politics and that will further undermine perceptions of its independence and credibility."

Mr Sentance served on the Monetary Policy Committee (MPC) of the Bank of England, the body that sets interest rates, from 2006 to 2011, and was an adviser to UK government in the 1990s and 2000s.

He worked as chief economist at the Confederation of British Industry (CBI) and the lectured at London Business School and the University of Warwick.

Currently he is a senior economic adviser to consultancy firm PWC.

Luke Bartholomew, investment strategist at Standard Life Aberdeen said: "The size of the hit to the economy will certainly make some stop in their tracks as this really is a massive hit to the economy. Nonetheless the Bank seems to be suggesting that it would be open to increasing interest rates in this environment to combat the increase in inflation.

"It is certainly true that falling sterling and the negative hit to the economy’s productive potential will push up inflation and provide a very painful headache for the Bank. But it is extremely difficult to see how they would do anything to interest rates other than cutting them in this environment."

The bank’s analysis is that house prices would fall by 30 per cent, while the value of sterling would fall by 25 per cent. The latter would lead to a very significant rise in inflation, and it is that which may prompt the Bank of England to raise interest rates.

But higher interest rates typically cause the pace of economic growth to slow further, as borrowing costs rise, meaning consumers and businesses would have less disposable income, so aggregate demand would fall in the economy. Additionally, higher interest rates would likely lead to more people defaulting on their mortgages, which would cause house prices to fall further.

The dilemma for the central bank is that if it doesn’t raise rates, inflation would continue to rise, which also reduces demand in the economy.

Andy Haldane, chief economist of the Bank of England has previously told the Treasury Select Committee of the UK parliament that it is always better in the long run to put rates up and curb inflation than to led inflation become excessive.

David Marchant, chief investment officer at Canada Life Investments has said he thinks the Bank of England would ignore the higher inflation caused by the drop in the value of sterling, as this would be temporary in nature, and so interest rates wouldn’t rise.

As part of its economic analysis, the bank also carried out "stress tests" on UK banks. This involves assessing whether the banks would withstand a range of economic outcomes, including the hard Brexit scenario outlined above. The Bank of England concluded that all UK banks would be able to survive such an outcome without requiring a bailout.

Rob James, co-manager of the Merian Financials Contingent Capital Fund, which invests in assets linked to banks, said a change to the way the tests were conducted means the bank stress tests results looked worse than they were, yet the banks still passed.

The Bank of England’s view of the commercial banking sector matters to investors because one of the remedies proposed by Mark Carney in the event of a hard Brexit is to lift constraints on the amount of capital banks can lend into the economy, as a method of increasing demand.   

david.thorpe@ft.com