Bank warns prime minister about Brexit plan as it keeps interest rates at 0.75%

The Bank of England has warned Boris Johnson on the eve of leaving the EU that his Brexit plan stands to drag down Britain’s economic potential, after voting to keep its key interest rate unchanged.

Dealing a blow to the prime minister as he prepares for Britain’s formal withdrawal on Friday night after nearly half a century of EU membership, the central bank cut its long-term growth forecasts, warning that Johnson’s push for a rapid Brexit would inflict lasting economic damage.

The update came after the Bank governor Mark Carney’s final rate-setting meeting before standing down in March, and he warned there would be costs attached to Johnson’s plan. The prime minister has imposed a legal deadline on the Brexit transition period for the end of this year – even if no future trade deal with Brussels has been agreed.

The Bank cut its GDP growth forecasts for each of the next three years, from 1.2% to 0.8% in 2020, from 1.8% to 1.4% in 2021, and from 2% to 1.7% in 2020.

“We are moving more rapidly to the new relationship with the EU than we had originally modelled,” said Carney. “It’s very clear the intention of the government is that we will move immediately, by this time next year, to a deep free trade arrangement,” Carney added.

The Bank warned that Britain’s economy would be able to grow at only 1.1% over the next three years without generating unwanted inflationary pressures – about half the rate recorded in the years before the EU referendum.

There had been speculation that the Bank’s rate-setters on the monetary policy committee (MPC) would cut the cost of borrowing to 0.5% – in what would have been the first rate reduction since a cut ordered in the wake of the 2016 referendum – after Britain’s economy effectively stalled at the end of last year amid heightened uncertainty over Brexit and the election.

But even though the MPC served the government with a downgrade on the eve of Brexit, the nine-member committee voted 7-2 to keep interest rates on hold at 0.75%.

Business confidence has surged since Johnson’s unexpectedly decisive victory, driven by a bounce in business investment and stronger conditions in the global economy. The Bank said growth would recover to around 0.2% in the first three months of the year, from zero at the end of 2019.

The MPC said the reduction in political uncertainty and the government’s plan to raise spending would probably boost economic growth over the months ahead.

But Carney said it was “still early days” to see if the recovery would take hold over the coming months. In deciding to keep rates on hold, he added: “It’s less of the case, ‘so far so good’, than ‘so far, good enough.”

In a sign of the challenges that Britain still faces, two members of the Bank’s nine-strong MPC, Michael Saunders and Jonathan Haskel, voted for an immediate cut in rates to provide additional support for households and businesses, in a repeat of their decision at last month’s meeting.

The Bank said productivity growth, a key measure of economic efficiency considered to be vital for improving living standards over the long term, would be damaged by tougher restrictions between Britain and the EU, even if the government secured a deep free trade agreement with Brussels.

Johnson’s demand to complete trade negotiations by the end of this year will also concentrate the impact, rather than allow the economy to gradually adjust to the new relationship with the EU.

The Bank’s cuts in the growth forecasts have the potential to embarrass the chancellor, Sajid Javid, who used an interview with the Financial Times this month to say he would target economic growth of between 2.7-2.8%.

Saying that the UK economy was entering a decade of potentially profound structural change, Carney said Javid’s focus was welcome, but added: “This is not something you would change overnight. It takes concerted effort.”