Global Investment Strategist for Kames Capital, Patrick Schotanus, reacts to the Bank of England cutting interest rates to 0.25%.
Quick Comment: Damage control (reaching for the sledgehammer)
“I would rather run the risk of taking a sledgehammer to crack a nut than taking a miniature rock hammer to tunnel my way out of prison.”
Chief Economist BOE (June 30, 2016)
We believe the BOE has reached for the sledgehammer, rather than the rock hammer. The initial reaction in markets suggests that they had underestimated the bank’s actions. We also expect both the pound and interest rates to remain under pressure for the time being. The big elephant in the room is the multiple deficit condition that the UK is suffering. This will not change following these announcements (and likely worsen in the next few years). It may mean that the BOE will actually have to use the sledgehammer.
To conclude, Brexit increased uncertainty across many areas in politics and economics. Specifically, it makes economic forecasting even more difficult. Many of the wishes of the establishment suggest a “soft” Brexit, which assures independence and access to the single market. Such wishful thinking is captured in the words of Boris Johnson, the new post-Brexit foreign secretary: “My policy on cake is pro having it and pro eating it.” Similarly, the BOE stated that it would like both “delivering inflation at the target and stabilising activity around potential”. As far as the “tandem” of the Treasury and the BOE are concerned, we need to monitor signs that suggest a closer attunement between fiscal and monetary policy. Still, economic theory and history suggest they either manage the currency or interest rates. They can’t have it both.