Economic and financial challenges as we enter a new decade

As we enter a new decade we face both familiar and new risks and also opportunities – from credit quality and cybercrime to new payment methods and individual ownership of credit data.  Factor in longer-term issues like climate change and technological innovation and there are a multiplicity of issues for the Bank of England to focus on. But for now I’m going to talk about the short-term.

The Bank of England’s policy makers are responding to the breadth and degree of change – not just to avoid risks but also to harness the opportunities that might benefit the general public – while sticking to the remit that the government and legislation have mandated for them.

Not an easy task.  The Monetary Policy Committee’s latest Monetary Policy Report and the Financial Policy Committee’s Financial Stability Report will provide you with analysis covering a raft of issues.  Here, to keep it brief, I’m going to highlight the latest key messages…

Bank of England holds rates steady

The November forecast shows growth picking up over the next few years, to a little over 2% by the end of 2022, as some of the Brexit uncertainties that have been facing businesses and households begin to diminish.

The Bank of England’s Monetary Policy Committee (MPC) meets 8 times a year to decide whether to change Bank Rate – the rate at which we lend to the UK banking system – based on what’s needed to keep inflation low and stable at 2%. Low and stable inflation helps households and businesses make spending and investment decisions for the right reasons and not because they are worried about what’s happening to prices in the shops.

I know from speaking to businesses around Yorkshire over recent months, a fall in uncertainty would certainly be welcome.

The MPC also expects economic activity in the rest of the world, which has been weighed down by international trade tensions, to stabilise.

As spending in the economy rises, that in turn will put some upward pressure on prices and help inflation to hit the 2% inflation target set by Parliament.

Based on those forecasts, the MPC judged that it would be appropriate to keep Bank Rate unchanged at 0.75%.

The Committee also highlighted some risks around their forecasts.  Two key risks were that growth in the rest of the world might not stabilise and recover, and that Brexit uncertainty might not fall as expected. In either case, monetary policy may need to be more supportive (via lower interest rates), to reinforce the expected recovery in the economy and help inflation meet the 2% target.

The MPC will continue to monitor the economy closely, to gauge the outlook for growth and inflation. They will be helped by our business contacts in Yorkshire and the rest of the UK, who speak with the Bank’s Agents across the country.

Confidence in money isn’t just about how much you can buy

The Bank produces banknotes on behalf of the government.  They need to be difficult to counterfeit and the more resilient they are the better.  Polymer (‘plastic’) notes last longer than paper notes and stay in better condition from day to day.  And there are a range of new security features that are extremely hard to replicate.

From 20 February 2020, you will start to see a new polymer £20 note featuring the artist JMW Turner.  The Turner £20 will join the Churchill £5 and the Austen £10. A new polymer £50 note, featuring Alan Turing, will follow in 2021.

As usual, the paper £20 will be gradually withdrawn from circulation and the public will be given six months’ notice of its legal-tender status ending.

The Bank of England’s Financial Policy Committee (FPC) works to keep the UK financial system ready for the risks it might face.

Bank of England strengthens the UK financial system

A major part of this work is to subject the biggest UK financial institutions to tough stress tests each year.

The latest test looked at what would happen to them if there were recessions in the UK and world economies that were even worse than those during the global financial crisis, including rapid rises in unemployment and substantial falls in house prices.

The good news is that all seven major UK banks and building societies passed the latest test, the results of which were published on 16 December 2019.

Not only would they survive such an extreme scenario, but crucially they would be strong enough to keep lending to households and businesses – something that didn’t happen during the financial crisis

Our major financial institutions now have to hold much more loss-absorbing capacity, called capital, than they did a decade ago. They are also better able to cut dividends and bonuses if they need to, which further increases their ability to absorb losses.

Combining the stress-test results with the extensive preparations made by our financial institutions and authorities, the FPC is confident that the UK financial system is ready for Brexit, whatever form it takes.

The FPC also announced a wide range of measures covering the housing market, investment funds, and the way we pay for goods and services, all of which aim to safeguard the financial system.

In the past, reckless mortgage lending during the economic good times has often left households vulnerable during bad times when their ability to make mortgage payments is reduced.  This has prompted the FPC to tighten some of the rules in this area in recent years.

Interest rate changes take time to work through the economy so the MPC have a forecast to help them judge the pressures on inflation over the next 2-3 years.  Ahead of their November 2019 meeting the MPC updated their forecast for economic growth and inflation to reflect the details of the Withdrawal Agreement and Political Declaration agreed with the EU, along with various other factors – especially the slowing in growth in the rest of the world.  The next forecast is expected to be at the end of January 2020.

To reduce the risk of these vulnerabilities building again, the FPC decided to maintain its limit on the amount of new loans that can be made by lenders at or above 4.5 times the borrower’s income.  And mortgage lenders must continue to assess whether borrowers could meet their mortgage payments if interest rates were to rise by three percentage points.

The Bank of England has also been working with the Financial Conduct Authority to review the open-ended funds and this will be complete in the summer of 2020.

Finally, the FPC acknowledged that innovative payment systems could bring significant benefits for UK households and businesses, such as lower costs and faster processing times, but we should be aware of the challenges. More on this at a later date…

As you can see, the range of potential risks to the UK financial system is wide. I hope you can also see that the Bank of England’s FPC is committed to making sure our financial system serves households and businesses, here in Yorkshire and across the UK, in bad times as well as good.

Juliette Healey is the Bank of England Agent for Yorkshire & Humber

• @BoEYorkshire, https://www.bankofengland.co.uk/about/people/Agents