Bank of England policy maker Martin Weale said that the full effects of the pound’s drop that started in 2007 may not have fed through, and exporters may be in line for further benefits.
“It may be that high levels of uncertainty and a reluctance to take on new risks have stood in the way of exporters seeking new markets and domestic producers doing what is needed to displace imports,” Weale said in a speech at the Warwick Economics Summit today in Coventry, England. “Provided the calmer atmosphere we have seen since the summer is sustained, we may see further benefits of the depreciation.”
Still, the U.K. faces a risk that net external debt may rise to 70 percent of gross domestic product, and the “most natural” way for that to be tamed would be for a further depreciation in the pound, Weale said. The Monetary Policy Committee member added that, while sterling’s decline this year may add 1 percent to the price level over the next three years, he’d disregard any inflationary impact of a weaker currency.
“The MPC remains oriented toward meeting our objective using domestic instruments and does not target the exchange rate,” Weale said. “I certainly see that there would be a strong case for treating the effects of any further depreciation similar to that experienced in the last few weeks in the same way.”
Since the start of the year, the pound has dropped about 4.9 percent on a trade-weighted basis. That “pushes inflation further from its target, but at the same time it probably goes some way to reducing our external imbalance,” Weale said.
His attitude toward the pound is in line with the MPC’s Feb. 7 statement that officials would “look through” a period of above-target inflation to support the economic recovery. The BOE held its bond-purchase plan at 375 billion pounds ($582 billion) and its key interest rate at 0.5 percent as officials assess the impact of their Funding for Lending Scheme.
Policy makers pinned some hopes on an export revival to fuel the U.K. recovery after the pound dropped about 25 percent since the start of 2007. Weale said the improvement “has been weaker than I would have expected.” The U.K.’s balance of trade “is now not much better than it was in 2008” and Britain “seems to have made no progress with rebalancing,” he said.
The role of the pound in improving Britain’s position comes to the fore since the U.K. can’t count on earning the same gains on overseas assets relative to its liabilities or its income account as before 2007, Weale said. Similarly, productivity improvements may not be feasible, and a drop in wages isn’t desirable, he said.
“Just as it may no longer be possible for people to pay for their retirement by means of capital gains on housing, it may no longer be practical for the United Kingdom to finance an excess of imports over exports by means of a positive income flow and capital gains made possible through gearing,” he said.
In response to audience questions, Weale said that the U.K. had not pursued a deliberate policy of competitive devaluation of sterling.
“What we have seen is the outcome of market forces,” Weale said. Following the financial crisis, as people reappraise their views of what an economy can deliver, “it’s natural asset prices, including exchange rates, should adjust,” he said.
The MPC member also said it would be a “bad idea” for the Bank of England to replace its inflation-targeting monetary policy framework with one that focused on nominal gross domestic product as that may boost inflation and be hampered by measurement difficulties, he said.
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