BOE May Need to Cut Even With a Brexit Deal, Saunders Says

(Bloomberg) --

The Bank of England may have to cut interest rates even if the U.K. avoids a no-deal Brexit, according to policy maker Michael Saunders. The pound fell.

Saunders’s remarks are a sharp departure for someone who was previously considered the most hawkish member of the Monetary Policy Committee. His argument is that Brexit uncertainties are likely to continue to depress growth even if the departure from the European Union is smooth, delayed or eventually canceled, especially if that is accompanied by a weaker global outlook.

Speaking in the northern town of Barnsley, England on Friday, Saunders stressed that the uncertainty shouldn’t be a “recipe for policy inertia,” and officials should be nimble in their response to Brexit, even if it requires a reversal once the outlook changes.

“If the U.K. avoids a no-deal Brexit, monetary policy also could go either way and I think it is quite plausible that the next move in bank rate would be down rather than up,” he said.

The pound fell after the remarks, dropping 0.3% to $1.2295.

While one post-Brexit scenario is that uncertainty falls, and some limited and gradual tightening is needed, “another scenario, and this is perhaps more likely to me, is of prolonged high Brexit uncertainty (even without a no-deal Brexit actually occurring),” he said.

“In this case, it might well be appropriate to maintain a highly accommodative monetary policy stance for an extended period and perhaps to loosen policy at some stage, especially if global growth remains disappointing.”

BOE officials said that inflation may be weaker than expected if Brexit uncertainty persists in minutes of their September meeting. Prime Minister Boris Johnson says the U.K. will leave the EU with or without a deal on a transition on Oct. 31, even though Parliament has legislated to force a delay if no deal is reached.

“Uncertainty also may remain very high even if there is not a no-deal Brexit at end-October,” Saunders said. “There might, for example, be one or more further cliff edge extensions, each of which might end in a no-deal Brexit (and hence heightened uncertainty). Or, if there is a withdrawal agreement, uncertainty probably will remain high over the U.K.’s future trade relations with the EU and other countries.”

Not Automatic

“Different possible outcomes for those trading arrangements could imply very different prospects for individual companies and sectors, but firms may not know what outcome to prepare for,” he added, while also reiterating that the response to no deal wouldn’t be automatic.

Saunders’ speech also puts him in line with markets, who expect the next BOE move to be a cut rather than a hike. Traders see the first quarter-point rate reduction arriving in August 2020.

The remarks came amid a flurry of reports showing the toll Brexit uncertainty is taking on the economy. The European Commission said its measure of economic sentiment for the U.K. fell sharply this month, and GfK said its key index of confidence stayed close to a six-year low. Meanwhile, the Federation of Small Businesses warned of a worrying lack of preparedness among small firms.

Saunders also indicated he thought it was better for the BOE to be proactive in addressing economic risks, rather than waiting for Brexit to play out entirely before changing policy.

“In the current unusual circumstances, whereby Brexit developments might substantially alter the economic outlook, the cost of a monetary policy reversal is probably quite low,” he said.

He said the U.K. output gap could be as high as 0.5% of gross domestic product now, and that growth is clearly below potential. Consumers appear to be more cautious, and the country is on track for its softest half year for a decade.

--With assistance from Zoe Schneeweiss and Fergal O'Brien.

To contact the reporters on this story: David Goodman in London at dgoodman28@bloomberg.net;Lucy Meakin in London at lmeakin1@bloomberg.net

To contact the editors responsible for this story: Paul Gordon at pgordon6@bloomberg.net, Brian Swint, Craig Stirling

©2019 Bloomberg L.P.