'Brexit' Suspense Clouds Carney's First Move on Interest Rates

How Brexit Fears Are Beginning to Impact U.K. Economy
  • Timing of rate increase may hinge on EU referendum plans
  • Economists predict BOE will keep rate at record low on Jan. 14

For a man who likes to guide investors, Mark Carney might be struggling to offer much more than suspense.

The Bank of England governor was meant to start 2016 at the midpoint of his term poised to raise interest rates, or at least have a clearer view of when they might increase. Thanks to Britain’s planned -- but still unscheduled -- vote on its membership of the European Union, the outlook for the economy and tightening has clouded. Even whether Carney is halfway through his time at the BOE is now an open question.

With officials beginning discussions Thursday for next week’s decision, low inflation, a slump in oil prices and cooling wage growth gives them scope to leave rates at a record low until the implications of the ‘Brexit’ referendum become clearer. Uncertainty about the timing and consequences of the vote led economists at Bank of America-Merrill Lynch and ING Bank on Wednesday to push back their forecasts for the first increase in more than eight years.

“It’s going to be a tough year,” said Dominic Bryant, an economist at BNP Paribas SA in London, who predicts the first move will be in May. “I can see a case for a rate rise from the middle of the year but the big uncertainty is when the vote comes for the EU referendum. Until we get some clarity on that it’s difficult to shape your forecast around it.”

Fed Tightening

With Prime Minister David Cameron due to set the date for the EU referendum any time between June and the end of 2017 and opinion polls inconclusive, companies may be less willing to invest in the U.K. The lack of clarity means there’s dwindling prospect of Carney following Janet Yellen’s Federal Reserve with tightening, even after eleven quarters of uninterrupted U.K. growth.

Chancellor of the Exchequer George Osborne said Thursday that if and when interest rates do rise it will be a sign that the U.K. has normalized after the financial crisis.

“Rising interest rates can be a sign of a stronger economy and that was the justification the Federal Reserve used,” Osborne said in an interview with BBC Radio 4. “We’ve got to make sure we’re ready, and this is a responsibility of the government, not the Bank of England solely, that we are ready for whatever the interest rate environment is.”

There are already signs that sentiment may be faltering as the referendum looms. Confidence in the service sector dropped in December and JPMorgan Chase & Co. warned that banks and insurers could pull jobs out of the country in the event that Britain voted to leave the bloc.

Rate Predictions

The BOE will leave its key rate at 0.5 percent on Jan. 14, according to a Bloomberg survey of economists. The decision and the minutes revealing how each member voted will be released at noon in London.

“Without the Brexit referendum, the rate hike would be earlier,” said Alan Mudie, head of investment strategy at Societe Generale Private Bank. “Late summer or early autumn is a likelihood,” which could push tightening as far back as the fourth quarter, he said.

Whenever the date is set, the referendum has the potential to dominate policy discourse this year. Fifty-six percent of economists in a Bloomberg News survey published last month cited either a British exit from the EU or the buildup to the referendum as the top threat facing the economy.

Timing Shifts

Officials may want to hold off on any policy changes before the vote in case there’s a material or persistent impact, according to Rob Wood, an economist at Bank of America in London and a former BOE official. He shifted his prediction for the first rate increase to November 2016 from May on Wednesday, citing the referendum and soft wage growth.

In October, Carney skirted the tense political battle surrounding the plebiscite with a speech that addressed the U.K.’s relationship with the bloc, but offered no final conclusion on its merits. That’s set to be a theme, as the central bank pushes back against getting dragged into the debate.

“It’ll try and avoid playing any sort of significant public role,” said Charles Goodhart, a former BOE policy maker. “But the question of what will happen on Brexit will have a significant effect on what will happen to the macro economy in the short run and therefore the BOE will have to react to that.”

Carney’s Term

In the final months of 2015, Carney backed away from an earlier assertion that the decision on when to increase the benchmark would come into “sharper relief” at the turn of the year. Since taking office in 2013 he’s struggled to deliver clear messages and was branded an “unreliable boyfriend” by a U.K. lawmaker.

Another communication challenge Carney may dwell on this year is a little closer to home: his future. In recent interviews the governor sidestepped questions about whether he still intends to serve just five out of the eight years that comes with the position, as he indicated when he accepted the job.

“It’s probably an issue he can dodge through 2016,” BNP’s Bryant said. “But when you get into 2017 it becomes more of an issue because if you’re going to go, then you have to start forward planning for a replacement and sounding out potential candidates.”

Still, before Carney considers when he’ll leave, he’ll want to focus on one of the most critical aspects for his legacy: increasing the benchmark rate.

“Whether he goes too early or too late is a big risk to how his tenure at the Bank of England will be viewed,” said Bank of America’s Wood. “It hasn’t been a smooth ride for his first couple of years and it’s probably not going to be a smooth ride for the next couple either.”

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