18th July 2016

Why the UK Government’s “business as usual” is international as well as national

Written by Rebecca Harding, Chief Economist

As the Prime Minister begins her first full week in office, much of the focus of government will be on maintaining the positive market momentum that characterised its first few days in office last week. In a week where the first formal and official views from outside of the UK of the economic consequences of Brexit emerge, its primary priority will be to begin the process of defining the UK’s future role with Europe.

In keeping rates on hold last week, the Bank of England was a key executer of this “business as usual” strategy. It signalled clearly to the markets that it was in control and that, unless there was a significant collapse in Sterling, there was no need to divert immediately from its current course. Given that Sterling’s value over the past month is broadly unchanged, despite the immediate post-referendum crash, there seems little need to act until more data emerges that reflects the big picture of the economy post-Brexit (Figure 1).


Sources: Financial Times and Google Finance

The Government will be watching for the reaction from the rest of the EU. The ECB makes its decision on the direction of interest rates for the Eurozone on Thursday 21st July; but the words that Mario Draghi uses about Brexit at his press conference following the decision that day may prove more important than the decision itself, at least for markets. The ECB has a commitment to keep markets in the EU stable and has promised to supply liquidity as necessary. But more importantly this will be the first statement by an overseas Central Bank since the Brexit vote and therefore will give a first indication of the international spill-over effects from the UK’s decision. Given that the BoE has not altered rates, it is unlikely that the ECB will, but the integrity of the Eurozone as well as damage limitation within the Eurozone will play heavily on its mind. In the immediate aftermath of the referendum we saw a run on Italian banks: the ECB will be keen to stress that this is under control.

On Tuesday 19th, ahead of the ECB decision on rates, the IMF publishes an update of its World Economic Outlook. The IMF in general and Christine Legarde in particular do not take a positive view of the prospects for the UK of a Brexit decision and this will be their first opportunity to pronounce on the likely global effects. The OECD has delayed its statistical release until more data is available. Like the OECD and other organisations, the IMF only has pre-Brexit data to look at. It therefore cannot assess the immediate aftermath of the decision on actual data. However, its opinion matters and, since its report comes ahead of the ECB’s meeting, may yet have a greater impact than usual.

On the domestic front, other data to be published this week will give an indication of how delicately balanced the UK economy was immediately before the referendum. Both the ONS and RightMove publish house price data and this is widely expected to show a slowdown in house price growth. Against our own data for mortgage lending, this suggests a sluggish housing market but also indicates how hard it will be for interest rates in the UK to change: Figure 2 shows that increases in the ONS House Price Index has not been inflationary in CPI terms (not least because CPI excludes house prices). Any further slowdown will reinforce the Bank of England’s “business as usual” stance.


Sources: ONS and Bank of England

The week ahead is really a week in which others pass judgement on the likely economic effects of the UK’s decision to leave the European Union. Both the impact of monetary and the fortunes of the real economy are inextricably linked with Europe and the rest of the world. Brexit means understanding our global position more acutely, not less. And business as usual must be just that.

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