The Bank of England downgraded its expectations for growth in the second quarter to zero percent, down from 0.2% in its May forecast, as Brexit-related uncertainty limits business investment, and growth in global trade slows.
Some of the effects are temporary. Data in the first quarter was skewed to the upside by businesses stockpiling in advance of the original Brexit date. The bank suggests this benefited the economy to the tune of 0.2% of GDP. By contrast, the reverse effect of stockpiles weighed on U.K. data in the second quarter, while a spate of shutdowns by the U.K. car industry, which has seen car production drop 20% year on year, contributed to a 0.1% decline in second-quarter GDP. This impact could likewise rebound in the third quarter as plants start up again.
The central bank now expects U.K. GDP to grow 1.3% in 2019, down from its previous prediction of a 1.5% expansion in May. It also lowered its growth rate forecast for 2020 to 1.3% from 1.6% previously, while raising that for 2021 to 2.3% from 2.1%.
Meanwhile, the BoE expects inflation to fall temporarily below its 2% target later this year, due to the recent falls in energy prices. Annual inflation in the U.K. met the central bank's 2.0% target for the second consecutive month in June.
The bank also sees more reasons to be pessimistic. PMIs have fallen off, while output in business services and finance have "slowed sharply," and the bank now gives a 30% chance that growth will fall below zero in the fourth quarter — the highest probability of negative growth the bank has forecast since the immediate aftermath of the referendum.
"Uncertainty over the United Kingdom's future trading relationship with the European Union has become more entrenched," the bank noted in its August Inflation report. The bank cited a survey that showed firms increasingly expect Brexit uncertainty to persist at least into 2020, despite new Prime Minister Boris Johnson's repeated pledges to pull the U.K. out of the European Union on Oct. 31, with or without a deal.
Business investment has tailed off significantly in light of the referendum results. Since then, business investment growth has been just 1% as opposed to an average of 12% in the other G-7 nations. The bank noted a DMP survey suggesting nominal investment "may be between 6% and 14% lower than it would have been in the absence of Brexit uncertainties."
The bank's monetary policy committee, or MPC, kept its benchmark interest rate at 0.75% at its August meeting today and maintained its expectation that rates could rise after Brexit, despite the market largely pricing in a cut.
Weakness in the economy, and the potential for a further downturn in the event of a "no-deal" Brexit has led many to conclude that the bank will be forced to cut rates to support growth. Futures suggest the market has now largely priced in a cut in interest rates before Governor Mark Carney ends his term in January 2020, but the bank itself has been keen to stress that rates could go in either direction.
In its minutes, the MPC repeated previous statements that should the U.K. achieve a smooth Brexit — the eventuality upon which the bank's models are built — the monetary policy response would likely be a gradual, limited rise in interest rates.
The bank's apparent preference for monetary tightening contrasts with the dovish shifts in tone from both the Federal Reserve and ECB, which culminated in the Fed cutting rates by 25 basis points on July 31.
However, in its August report, the bank added the caveat that there would also have to be "some recovery in global growth," which has tailed off as the year has progressed.
"Since May, global trade tensions have intensified and global activity has remained soft," the MPC noted in its minutes. The bank cuts its projection for world GDP growth in 2019 to 3% from 3.25%.