UK: Carney warns of Brexit recession risks – ING

Research Team at ING, notes that the Bank of England warned of the significant risks that the UK leaving the EU could generate, with the potential scenario of technical recession.

Key Quotes

The Bank of England left monetary policy unchanged yesterday (Bank Rate 0.5%, QE at £375bn) with the vote coming in 9-0 for both. The key headlines were generated by the subsequent press conference hosted by BoE Governor Mark Carney. The press releases had already discussed the uncertainty that the June 23rd Brexit referendum is generating, suggesting that there are signs that it is already weighing on activity. Should the UK actually vote to leave then the BoE warned that it would raise risk premia and hurt capital inflows, it may also lead to the pound depreciating further, possibly “sharply” which in combination would lead to inflation moving higher and a lead to a weaker outlook for growth. Carney went further in the press conference, stating that the “biggest risk to the forecasts concern the referendum” and that a vote to leave would have “material effects”. He added that “we would expect a material slowing in growth” with a range of outcomes that “could possibly include a technical recession”.

Should the UK vote to leave the EU then we see significant downside risks to the economy as businesses and households retrench and financial market volatility spikes. Sterling would likely collapse and interest rates would probably be cut as the Bank of England tries to shore-up confidence. Such an outcome would likely have global ramifications with the euro probably weakening in response. The Federal Reserve could also delay its tightening cycle as the dollar rallies on safe haven flows, which would tighten US financial conditions.

Conversely, the BoE believe that growth would probably pick-up reasonably quickly if the UK votes to remain an EU member.

Looking ahead, we expect any GBP upside to be short-lived. We note that the shift in global risk sentiment in recent months (from bearish to fairly neutral) has been a positive driver for GBP, accounting for more than half of the relief rally. But signs of a stabilisation in risk appetite (as opposed to new found optimism) means that this risk impulse is beginning to fade.

Instead, the focus will be squarely on the upcoming EU referendum, heightened focus on the economic costs of a Brexit, a further softening of UK activity data and the possibility of other UK asset markets trading at a discount suggests that further GBP downside is yet to come. Short GBP/USD would be the preferred vehicle to express a bearish GBP view should US yields start to pick up on the back of solid US data. We continue to expect a move below 1.40 ahead of the referendum.”