Bank of England Delivers. What's Next?
The Bank of England delivered a monetary-policy package on Thursday designed to cushion the blow of Britain's vote to quit the European Union. To be effective, however, monetary easing must be followed by a comprehensive package on the fiscal side.
Central bank Governor Mark Carney, making good on his post-referendum pledge to ease policy, unveiled measures that included halving the bank's benchmark interest rate to 0.25 percent, boosting its government bond buying and adding corporate debt to its shopping list. His monetary policy committee even suggested another rate cut is on the cards later this year, though Carney ruled out negative rates.
It's clear why the central bank felt it had to act. Britain's services sector, which contributes more to the economy than any other sector, is poised to shrink at its fastest pace since 2009, according to Markit's July survey of purchasing managers published on Wednesday. Since the Brexit decision, economists have slashed their forecasts for how much the economy will grow by next year, as this chart shows:
To reverse that trend, Chancellor of the Exchequer Philip Hammond has to fulfill his promise to "reset" an economic policy that has centered on austerity in recent years. Central banks all around the world are reaching (and maybe exceeding) the limits of the good that monetary policy can do to resuscitate growth and confidence.
The need for more fiscal policy muscle is being acknowledged by several governments. Japan, which led the way in unorthodox monetary policy, recently revealed a $273 billion package which includes fresh spending on a new high-speed train line and upgraded port facilities. Canada is projecting both increased government spending and a climb in budget deficits, as Prime Minister Justin Trudeau implements deficit spending to fund a $95 billion infrastructure spending boost. And in South Korea, the government has announced a $9.7 billion supplementary budget as part of a $17 billion fiscal package, focusing on investing in regions hurt most by the expected loss of 60,000 jobs in the shipbuilding sector.
At his press conference, Carney stressed the appropriateness of the central bank being "the first responder" because "we can act quickly. Monetary policy is more nimble." But asked what he expects from the Chancellor and whether the central bank would be a buyer if Hammond started to issue "infrastructure bonds" as a way of financing a fiscal boost, Carney demurred:
We're fully aligned; he's fully informed in terms of the MPC's thinking about what we can do. He has been clear that he's willing to take any necessary steps to support the economy and reduce uncertainty. Those are decisions for him and the government, and they operate on a different timeframe. We're not privy to those decisions; we make no assumptions about any change in the stance of fiscal policy. It's not appropriate for me to commit that we would countenance doing anything else.
Carney is right that monetary policy is the first line of defense. But the second responder needs to be the British government.
Prime Minister Theresa May said in June that the country needs a "proper industrial strategy," and has swiftly established a new government committee featuring a dozen cabinet ministers that met for the first time this week. It's not entirely clear yet what she means, but if the vision includes faster approval and implementation of infrastructure projects such as improved London rail links, as well as more high-speed train lines in the north of the country to help rebalance growth away from London, then that will be good news. Backing the various tidal-power schemes currently under review would also be welcome, for environmental as well as economic reasons.
Those are the kinds of projects that can benefit from the record-low interest-rate environment created by the Bank of England and which can generate growth and jobs in the years ahead. Carney has shown true leadership by mobilizing the Bank of England's armory to defend the economy after Brexit; now May and Hammond need to do the same.
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