Bank of England has played its part; now it’s up to Theresa May to introduce fiscal stimulus

Britain’s vote to leave the European Union has caused economic uncertainty that must be tackled with both monetary and fiscal policies to boost demand

PUBLISHED : Monday, 08 August, 2016, 12:17am
UPDATED : Monday, 08 August, 2016, 12:17am

The costs and benefits of Brexit will take a long time to unfold. In the prolonged aftershock of the British referendum vote to leave the European Union, little has emerged to substantiate the dire consequences predicted by Remain campaigners, or reassurances from the Leave campaigners – until now.

To cushion a looming economic downturn and head off a recession, the Bank of England has unveiled its biggest stimulus package since the financial crisis, including an interest-rate cut to a record low of 0.25 per cent, a new £70 billion (HK$710 billion) bond-buying scheme and a £100 billion fund to encourage banks to pass on cheap rates to borrowers.

The Bank of England has been persuaded to act so decisively now, just a few weeks after the vote and well ahead of exit negotiations, by surveys that showed Britain could be headed for recession as a result of flagging business confidence amid all the uncertainty unleashed by Brexit.

Despite what Bank of England governor Mark Carney rightly calls an “exceptional package”, the bank’s forecasts include the biggest growth downgrade in 20 years and the loss of 250,000 jobs. The forecasts make another rate cut likely soon.

Bank of England cuts rates for first time since 2009, restarts bond purchases

Carney does think Britain can bounce back from Brexit but, in the meantime, it faces rising unemployment and inflation and falling house prices. Commentators and business spokesmen were divided over the package’s impact. On the other hand, Bank of England officials did not rule out short-term, negative overreaction as a factor in the gloom showing up in surveys.

So far the effect of Brexit on the world economy, and therefore on Hong Kong’s outward-looking economy, has been limited. Whether it remains so could depend on the government’s fiscal response to the Bank of England package.

This was the result of contingency planning, which took account of such variables as the openness of Britain’s economy as it developed new economic relations outside the European community. It also factored in a national economy 2.5 per cent smaller in three years than forecast before the referendum, reflecting in part declining investment.

By contrast, the government of new Prime Minister Theresa May does not seem as well prepared . The Bank of England has bought May time before the government’s traditional autumn spending statement. She needs to make good use of it to craft complementary, targeted fiscal stimulus to prop up demand.