A smooth Brexit could lead to tighter monetary policy according to the Bank of England's Mark Carney

Jasper Jolly
Bank Of England Hold Press Conference On The Financial Stability Report
Bank of England governor Mark Carney expects inflation to breach two per cent in February (Source: Getty)

A smooth Brexit process would lead to a faster rate of interest rate increases, according to the Bank of England’s governor, Mark Carney

If the process of the UK leaving the EU moves “relatively smoothly to an increasingly clear end point” it would “be consistent with a higher path of interest rates,” Carney said, in testimony to members of the Treasury select committee.

If Britain achieves a “bold, ambitious trade deal” without significant obstacles “that is a scenario that is consistent with faster growth relative to forecast, higher inflationary pressure relative to forecast and tighter monetary policy relative to forecast,” he said.

Read more: Bank of England in dramatic upgrade of UK growth forecasts

Carney was flanked by the Bank’s chief economist Andy Haldane, who added that Prime Minister Theresa May’s plans for Brexit are not expected to affect growth over the next three years.

Referring to May’s plan to trigger Article 50 and start a process that will result in the UK leaving the EU and its Single Market, Haldane said: “When we played through the impact that that would have on our forecasts, the impact was relatively modest.”

He added: “Even if we had adjusted [our forecasting models], it would not have had a material bearing on our inflation and output projections.”

Carney predicted inflation will break the Bank of England’s (BoE) two per cent target this month, but ascribed the rise in prices “entirely” to the effects of the fall in sterling’s value.

This maintained the Bank’s policy of “looking through” higher inflation until domestic inflationary pressures grow.

Ian McCafferty, a member of the BoE’s rate-setting Monetary Policy Committee (MPC) said: “We are closer to those limits of tolerance than we were six months ago.”

The BoE’s forecasts show inflation peaking at around 2.8 per cent in the first half of 2018, but few independent economists expect a rise in interest rates in the near term as the Bank takes into account unemployment ahead of an expected slowdown in consumer spending.

Read more: Inflation will push living costs 10 per cent higher than pre-crisis peak

Carney and colleagues from the BoE were closely questioned on their unemployment forecasts in sometimes testy exchanges with the members of Parliament’s Treasury select committee.

In its latest forecasts the MPC lowered its assessment of the equilibrium rate of unemployment, the rate below which inflationary pressures are likely to build, from five per cent to 4.5 per cent, meaning it could raise growth forecasts without implying higher domestically generated inflation.

This was predicated mainly on the weaker path of wage growth, which the Bank assumed would continue. However, Carney implied that an uptick in wage growth could lead to tighter monetary policy.

He said: “If wages do not follow a pattern consistent with this assumption it is likely to have consequences for monetary policy.”

Meanwhile, another MPC member, Gertjan Vlieghe, admitted that the Bank is unlikely to see the next big financial crisis coming.

“We are probably not going to forecast the next financial crisis, or forecast the next recession,” Vlieghe told the MPs. “Our models are just not that good.”

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