Monday, November 28, 2022
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A two-year recession threatens Britain

The Bank of England raises its key interest rate very sharply to 3%, but warns of a long economic crisis for the country.

The United Kingdom has already entered recession and will not come out of it until mid-2024, i.e. two years of slowdown in activity, which could reduce GDP by 2.9%, according to the latest forecasts from the Bank of England (BoE) ). As a result, unemployment could jump from 3.5% currently to 6.4% in 2025. Less deep than the 2020 Covid crisis or the 2008 financial crisis, however, it would be the longest recession in the country’s history.

That bleak outlook didn’t stop the bank’s monetary policy committee from voting by seven votes to two on Thursday for the biggest one-off increase in 33 years in its key interest rate. From 2.25% to 3%, it is the highest since 2008. With this increase of 0.75 points, the BoE is following in the footsteps of the Fed, which the day before raised its interest rates by the same amount for the fourth time in a row. “If we don’t act strongly now, it will get worse later,” justified the governor of the Bank of England, Andrew Bailey, if it was the eighth rate hike in a row since December 2021.

However, the tone differs on the next steps. If the head of the US central bank, Jay Powell, has shown his willingness to continue a forced march of interest rate hikes, even beyond what the markets expect, his British counterpart, on the contrary, estimated that British interest rates will rise less than what the markets predict. . Namely, a final rate of 5.25% next year, which would contribute to this scenario of a two-year recession. On the other hand, he said that if interest rates end up rising less, the contraction of the economy will be of less scope and duration.

Those prospects sent the British pound plunging, losing up to 2% against the dollar and 1% against the euro by midday.

Fix Liz Truss’ ‘mini-budget’ damage

The only relatively “good” news in this panorama, inflation in the UK would have peaked at 10.9% in October, according to the Bank of England. It should remain around 11% until the end of the year, to fall back to 10% in the first quarter of 2023 and fall further thereafter. It could fall back below the 2% target in two years in the event of a severe and prolonged recession. The Bank of England had to make its forecasts somewhat blindly, pending the government’s budget decisions, postponed until 17 November. These are expected to include tax increases and major cuts in public spending, which could worsen the slowdown in the economy.

Rishi Sunak’s government must repair the damage to the “mini-budget” for Liz Truss and her finance minister Kwasi Kwarteng at the end of September. Unfunded tax breaks of DKK 45 billion. pound had sent a storm through the bond markets, forcing the Bank of England to intervene quickly. Returning to this episode, Andrew Bailey mentioned the existence of a “Premium UK” risk on UK interest rates (as the financial markets have dubbed “fool’s bounty”), due to these risky policies. “There have been questions about British politics and this will have a lasting effect, he acknowledged. We have to work very hard to turn this page. ยป

After being forced to buy government bonds to avoid a crash, the Bank of England resumed on 1eh November, selling assets accumulated during the Covid crisis in the name of “quantitative easing”. It is the first major central bank to launch the reverse approach of “quantitative tightening”, namely the reduction of its balance sheet by 875 billion pounds. A first tranche of 750 million pounds of British bonds was sold in the markets on Tuesday.

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