“A Fine Balance” Decoding Mark Carney recent statement and the hard role of BoE in Brexit negotiations.

Picture: REUTERS
Preslav Raykov 6/22/2017

In his remarkable recent speeech at “The Mansion House” in London, Mark Carney-Governor of the Bank of England gave the markets an honourable and forward looking statement regarding the recent comments about the possibility of raising rates this year influenced mainly by trending inflation and weak wage growth in the last 9 months.

In his delayed speech and public reaction to the last week events when Bank of England was closest to backing an interest rate hike since 2007 as policymakers react to inflationary pressure, Mark Carney clearly explained why he was one of five of eight members voting for no change in borrowing costs.

As the latest UK inflation and labor market data are considerably bothering some of the members of the monetary policy committy (MPC)
*BOE 8 member monetary policy commitee (MPC) voted on June 14 with 5–3 in favor of maintaining record low interest rates of 0.25 percent as votes were previously expected to be 8–1 on rate hold, showing some signs of rising oppositions to Carney readings of the current UK economic situation*, Mark Carney gave the audience pure and clear understanding that currently not monetary policy, but Brexit is the main reason for the recent slump in UK economy.

“Monetary policy cannot prevent the weaker real income growth likely to accompany the transition to new trading arrangements with the EU. But it can influence how this hit to incomes is distributed between job losses and price rises” said Carney in his recent speech titled “A fine Balance”.

Its now more than clear that Carney first want to see how businesses, financial markets and consumers will react to the reality of the UK’s looming departure from the EU before even think of changing his view for any future rate changes.

”…and more generally, how the economy reacts to the prospect of tighter financial conditions and the reality of Brexit negotiations.”

Taking into consideration that Brexit negotiations are just starting, we can expect that in the next 6 to 9 months there will be no major moves regarding uplifting the basic interest rate in UK. Most probably the BoE will start to taper its bond buying program that currently amounts to £435bn monthly purchases of government bonds and £10bn of corporate debt.
Such actions are predictable and expected to start at the end of the year, so BoE can hold firmly in line with its main peers (FED and ECB) and in this way not suporting even more the monetary divergence that eventually can weaken the pound even more, boosting inflation further from the 2% target.

As recently noticed, more of Carneys oppostion is concerned about the monetary policy imbalances with other major economies, Carney itself prefers to put bigger importance on the global trade imbalances that occured in recent years and are mainly driven from the trade and current account dissproportions accross all “open” economies.

“Excessive trade and current account imbalances are now politically as well as economically unsustainable”.

Carney marks two main type of imbalances-good and healthy, as the world mismatch between trade balances in emerging markets and the ones in the developed economies, and the bad ones -imbalances mainly caused by domestic distortions, global deficiencies and mercantilist or protectionist policies.

Following his thoughts, in this global environment described by the governor of BoE, UK is currently running a historically large current account deficit affecting the local UK business and also households, putting more money asside for government to fill the deficit gap instead of funneling this money flow to increase wages and real incomes across the local economy.

As gradually shifting from monetary policy through global trade imbalances, Carney is formulating the main solutions for this low inflation / low wage / low growth trap that post Brexit UK is experiencing.

“One cause of global imbalances is the uneven playing field between trade in goods and services, with barriers to services trade currently up to three times higher.”

As clearly indicated, the main stance that the UK central bank head will be holding in the upcoming hard Brexit negotions will be to negotiate a favourable trading conditions that are not restricting services trade flow, helping services and market liberalisation with all major trade partners and substantialy to increase and ease the financial services. And last but not least-not falling in the trap of protectionsm.

“ One million people across this country work in financial services. The industry contributes 7% of output and pays taxes that cover almost two thirds of the cost of the NHS. At a time when the UK is running a 5% current account deficit, financial services runs a 1.5% trade surplus with Europe alone. The entire service sector runs a 5% surplus with the world and employs 85% of UK workers.”

“ In recent weeks, we have been reminded of fine balances: in decisions, in parliament, in life. The fine balance between hope and despair”

- Mark Carney, Governor of the Bank of England The Mansion House, London 20 June 2017

SOURCE:
http://www.bankofengland.co.uk/publications/Documents/speeches/2017/speech983.pdf