BOE claims tough Winter ahead, but Spring could be better

Date : 10 November 2020

The new Bank of England Monetary Policy Report (formerly the Inflation Report), notes the damaging effect of Coronavirus on both the global and national economies.

The UK saw a very modest economic recovery in Q3 2020, as coronavirus seemed to recede, but recent re-emergence of coronavirus is expected to damp-down economic activity globally and locally in Q4 2020.

For this reason, the Bank held the base interest rate at 0.1% in November and approved a further tranche of quantitative easing.

Inflation remains well below the Bank target rate of 2.0% (by the CPI method), due to low demand, excess productive capacity, and other factors (eg: strategic VAT reductions).

The Banks notes the rapid deterioration of the UK labour market over the Autumn and states that wage growth has now slowed to zero.

Paradoxically, residential mortgage lending is quite strong, which is likely a reflection of the temporary Stamp Duty “holiday”, which is bringing more buyers into the housing market.

However, mortgage “spreads” (ie: profit margins) are widening, which may reflect higher perception of risk on the part of lenders, who require a higher rate of return to justify making a loan.

Activity is expected to pick up rapidly in 2021, however, especially with respect to consumer spending – business expenditure is expected to pick up more slowly.

UK economic activity is projected to return to the pre-coronavirus level by early 2022, with inflation retuning to the target rate over a similar timescale.

The strategic situation remains extremely uncertain, making forecasting difficult, with risks tending to the downside.

Note, however, that this report was written just before news broke of the possible vaccine for Coronavirus, which may give reason for a quicker return to more “normal” conditions.

The Bank’s central projections assume that a free trade agreement (similar in scope to the EU / Canada deal) will be struck with the EU, but that there will be some disruption of trade in 2021 as new arrangements bed-in.

Although some businesses will be ready it is expected that some will not have completed preparation for EU Exit before year-end. The Bank points to coronavirus and lack of clarity from government as major barriers to preparation (IGD research highlighted the same “blockers”).

As shown in the accompanying chart, coronavirus is seen to have changed shopper spending patterns in dramatic fashion, in the space of a few months. As well as mode of expenditure (online vs real world), the type of expenditure has also shifted.

Interestingly, online shopping is seen as potentially beneficial for productivity in retail and as a means of promoting price competition. This may not be the case in all sectors however – grocery is especially difficult to deliver profitably online.

Working from home has become more widespread and this is expected to be retained into the post-coronavirus period, but it is not yet clear whether working from home increases or reduces individual productivity.

Source: Bank of England, November 2020

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