The decision by the British population to exit the European Union (EU) has already had an impact on the British economy. Particularly, within the financial sector the British pound exchange rate has depreciated since the Brexit decision. Consequently, banks, investors and households are all keen to hear the policy decisions of the British government and the Bank of England (BOE) to help the country through a conceivable turbulent and uncertain future.
In this regard, the Inflation Report, released quarterly, provides detailed economic and inflation analysis and projections on which the BOE’s Monetary Policy Committee (MPC) bases its interest rate and decisions. The document also provides guidance as to the prospects for future inflation, output and unemployment within the British economy. Further, the mandate of the Monetary Policy Committee (MPC) is to help sustain growth and employment within the British economy.
Subsequent to Brexit preliminary surveys indicate that the British economy is likely to experience a contraction in the short and medium term due various factors including downward revision to potential supply, loss of jobs and business uncertainty. Additionally, the exchange rate has fallen, which places an upward pressure on CPI Inflation As such, on August 4, 2016, the Bank of England (BOE) released its Inflation Report, indicating it will cut Bank Rates to 0.25%, the lowest in seven years. Notably, the cut in the Bank Rates is one of the actions in a package of measures voted on by the MPC. This package comprises:
- a 25 basis point cut in Bank Rate to 0.25%;
- a new Term Funding Scheme, which provides funding for banks at interest rates close to Bank and thus supports the pass-through of the cut in Bank Rate;
- the purchase of up to £10 billion of UK corporate bonds; and
- an expansion of the asset purchase scheme for UK government bonds of £60 billion, increasing the total stock of these asset purchases to £435 billion.
The MPC package of measure is part of an expansionary monetary policy designed to generate increased aggregate demand within the economy by reducing the cost of borrowing for household and businesses, and increasing the money supply within the banking and business communities. Unfortunately, expansionary measures, such as these, are in direct conflict with the committee’s 2% inflation target. Further, the fall in the exchange rate is likely to result in an increase CPI Inflation in the near term.
Despite the trade-off between stimulating the economy and inflation, the MPC believes that had it failed to institute such measures the MPC predicted lower output and higher unemployment, which would also jeopardize the ability of the BOE to meet the 2% inflation target.
By,
Jade De Labastide (MSc., BSc.)
JDL Business
JDL BUSINESS 