That's the way to do it

Although large chunks of the British institutional framework appear to have collapsed in the wake of the Brexit referendum result, the Bank of England can continue to hold its head high. Governor Mark Carney has offered leadership and a clarity of message which has been absent elsewhere. The irony is, of course, that Mr Carney is not even a Brit but he is showing the natives of his adopted country how crisis management should be conducted. He has obviously learned lessons from his predecessor, when Mervyn King was initially slow off the mark in identifying and then tackling the wave of problems which washed over the UK banking system in 2007-08, although he subsequently proved to be a very safe pair of hands. 

Indeed, the fact that the UK banking system has held up pretty well in the face of the Brexit uncertainty shock is partly the result of the system put in place during the latter phase of Mr King’s tenure. Where Mr Carney has scored has been his willingness to lead from the front: His presentation today of the Financial Stability Report was his third significant public appearance in the 12 days since the referendum. The tone of the FSR was cautious and highlighted many of the things which could go wrong. The BoE warned of the risks to the commercial real estate (CRE) sector which might be triggered by Brexit, noting that “foreign investors accounted for around 45% of the value of total transactions since 2009.  These inflows fell by almost 50% in the first quarter of 2016.” 

Right on cue, two more companies today announced they were suspending trading in property funds following yesterday’s announcement by Standard Life. It does appear that overseas investors are getting their money out while they can. The ban on withdrawals might appear dramatic but it reflects the fact that the funds can only repay investors by selling their property holdings, but since property is an illiquid asset this takes time. Whilst this might cause investors to panic with regard to their ability to get their money back, this is not like 2008, although it will cause jitters to ripple throughout the market. The BoE also points out that the collapse in the CRE sector could feed into the wider economy because property is often used as collateral to secure bank lending, and less collateral might result in a lower level of bank lending. In a bid to ensure that lending is not restricted by policy actions, the BoE announced it would reduce the bank countercyclical capital buffer (CCB) from 0.5% to 0% with immediate effect. In effect, the funds which banks otherwise would have been required to put away for a rainy day can now be used for lending purposes. It is now raining! 

But the BoE knows that it can only operate on the supply side of the credit market. As Mr Carney noted in a speech last week “one uncomfortable truth is that there are limits to what the Bank of England can do. In particular, monetary policy cannot immediately or fully offset the economic implications of a large, negative shock.  The future potential of this economy and its implications for jobs, real wages and wealth are not the gifts of monetary policymakers. These will be driven by much bigger decisions; by bigger plans that are being formulated by others.” 

The markets are taking their own view on UK prospects with the pound at 31-year lows against the US dollar. Despite the central bank’s best efforts, there exists a vacuum at the heart of policymaking. Until we have more clarity here, the pound is likely to remain under pressure. Still, it’s good news if any foreign tourists fancy a holiday break in the UK. The economy needs all the support it can get.