Photographer: Simon Dawson/Bloomberg

Carney Says BOE Has Room for Maneuver Should Economy Weaken

  • BOE governor says pound drop reflects `referendum premium'
  • Vlieghe says downside surprises may prompt vote for rate cut

Mark Carney said Bank of England officials have scope to loosen monetary policy if needed as concerns that Britain may leave the European Union put further pressure on the pound.

“If we were in a position where the economy needed additional stimulus, we do have considerable room,” the central bank governor told lawmakers in London on Tuesday. Officials have “conventional policy” options such as cutting rates or quantitative easing or they could “adjust” the horizon over which the BOE aims to return inflation to the 2 percent target, he said.

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The pound remained near its lowest level against the dollar since 2009. Sterling plunged almost 2 percent Monday as traders bet London Mayor Boris Johnson’s decision to campaign for leaving the EU increased the chances of a Brexit. With traders already pushing back bets on when the BOE will raise borrowing costs, the prospect of a U.K. departure from the world’s largest single market is creating further uncertainty. Carney said the BOE is doing contingency planning for the June 23 referendum and watching for signs of an economic impact.

Policy maker Gertjan Vlieghe, testifying alongside Carney with Deputy Governor Minouche Shafik and official Martin Weale, said that if the outlook worsens, he would consider voting to cut the key BOE rate from its current record low of 0.5 percent.

Cut Prospects

“I have relatively little tolerance for further downside surprises,” Vlieghe told House of Commons Treasury Committee. “Should downside surprises continue then I think we will get relatively quickly to a point where I find it appropriate to respond to it.”

The BOE has kept its benchmark rate on hold for almost seven years. The market-yield curve shows a 25 basis-point rise is not priced in until 2019, with investors zoning in on the possibility lower borrowing costs.

Carney said the BOE wasn’t following the Bank of Japan and the European Central Bank and embracing negative rates.

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“It is now our judgment that we if necessary could lower bank rate,” the governor said. “It is not yet our judgment that it could go negative.”

‘Referendum Premium’

The pound fell 0.3 percent to $1.4114 as of 12:30 p.m. London time. The currency dropped as low as $1.4058 on Monday. Gauges of pound volatility versus both the dollar and euro have surged to the highest levels since 2011, while the options market signaled more losses ahead for the pound.

“It’s safe to say that there is an element of referendum premium” in sterling, Carney said. While recent moves in options have “spiked to levels consistent with around the height of the Scottish referendum,” the persistence of the move is what matters, he said.

“We are engaged in contingency planning for the referendum,” the governor said. “The Prudential Regulation Authority, in terms of its general supervisory responsibilities, is keeping abreast of contingency plans of our financial institutions.”

Lagged Effect

Shafik told lawmakers that the exchange-rate changes have lagged effects so there is no mechanical link between the market moves and interest-rate policy. In written testimony to the committee, the deputy governor said that even though a slowdown in wages is making the timing of the first rate increase harder to judge, it is still more likely than not that the next move will be a tightening.

Weale signaled he sees upside inflation risks over the next year and price gains will likely overshoot the central forecast of policy makers published in February, which saw inflation at 2.1 percent in the first quarter of 2018.

Asked about the prospect for weaker sterling to push up inflation, Vlieghe said officials don’t think about the currency “in isolation.”

“We have to think about why the exchange rate is falling, we think it’s falling because of increased uncertainty,” Vlieghe said. While so far there’s little evidence of an economic impact, a weaker exchange rate “might partly offset other weakness in the economy,” he said.

The chairman of the Treasury Committee, Andrew Tyrie, said Carney and BOE Deputy Governor for Financial Stability Jon Cunliffe will appear before lawmakers on March 8 in a session devoted to so-called ‘Brexit.’

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