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BoE’s Saunders says Brexit risks don’t justify low rate

A bus passes the Bank of England in London May 13, 2015. — Reuters picA bus passes the Bank of England in London May 13, 2015. — Reuters picLONDON, Aug 31 — The risks related to UK’s exit from the European Union aren’t reason enough to hold off raising interest rates, according to Bank of England policy dissenter Michael Saunders.

While Brexit could weaken sentiment, lower inward migration, limit labor supply and further impact the pound, the necessary monetary policy response is not clear, he said in a speech in Cardiff, Wales today. Meanwhile, the trade-off between above-target inflation and below-potential output is now “beyond my limits of tolerance,” he said, explaining his decision to vote for a rate increase at the BoE’s last two meetings.

“I do not want to dismiss risks that the Brexit process might be bumpy, and could undermine business and consumer confidence,” Saunders said. “We should not maintain an overly loose stance as insurance against this scenario. Rather, we should be prepared to respond as needed if it happens.”

Saunders has voted alongside fellow Monetary Policy Committee member Ian McCafferty for a 25-basis point rate hike since June. While Chief Economist Andy Haldane has also said he’s considering it, he joined the rest of the rate-setting board in opting for no change at their August 3 meeting.

The MPC is grappling with inflation well above its 2 per cent target, even as output loses momentum amid uncertainty about the UK’s future trading relationship with the EU. The economy expanded 0.3 per cent in the second quarter, leaving growth in the first half at its worst since 2012. It’s also the slowest among Group of Seven nations that have reported so far, although Saunders said that he expects the data to be revised higher.

“We do not need to be putting the brakes on so much that the economy weakens sharply,” Saunders said. “But, our foot no longer needs to be quite so firmly on the accelerator in my view. A modest rise in rates would help ensure a sustainable return of inflation to target over time.”

The UK now has little or no output gap and, combined with inflation pressures, that implies less need for stimulus, he said. External cost pressures from its post-referendum pound drop may be peaking although the “slight dip” posted in July “probably does not mark a turning point to lower inflation.”

Echoing Governor Mark Carney’s comments last year, Saunders said the BoE is “not indifferent” to the faster inflation caused by sterling’s depreciation. There’s no particular exchange rate level that would trigger concern and the BoE doesn’t target the pound, he said.

The speech is the first by a UK policy maker since the August 3 inflation report. Since then, the pound has lost about 2 per cent against the euro. — Bloomberg

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