Mark Carney is extending his stay at the Bank of England through mid-2019. He'll certainly have his work cut out for him.
Britain will trigger Article 50 of the Lisbon Treaty by March of next year, thereby kick-starting the process of its divorce from the European Union. What will a post-Brexit Britain look like? That's a big question overhanging the global economy and markets – and the answer isn't coming any time soon.
In this uncertain climate, Mr. Carney and his colleagues face several fundamental challenges.
Economic slump?
Britain's growth prospects have weakened. The British economy is expected to expand by 0.85 per cent in 2017, according to the median forecast in a Bloomberg survey of economists. The International Monetary Fund has slashed its forecast by half to 1.1-per-cent growth next year. Granted, the pro-Brexit camp would note that, after the referendum vote, economic growth has bucked expectations to the upside.
"Although the knee-jerk economic impacts have been softer than many anticipated, with better-than-expected [Purchasing Managers' Index] prints and a stronger-than-estimated GDP report following the Brexit vote, the ambiguous business environment warns that the activity in the U.K. may experience worse times in quarters ahead," Ipek Ozkardeskaya of London Capital Group said in a research note.
Plunging pound
The pound has taken a hit since the June vote, plunging to multi-decade lows against the U.S. dollar. Of course, the currency's drop is a double-edged sword. A weaker pound makes British exports more competitive, and it helps boost the bottom line for companies with substantial overseas sales. On the other hand, it hampers profitability for British firms needing to buy equipment and materials from abroad, or to service debt in foreign currencies. Plus, imports become costlier, hitting pocketbooks at the household level.
Inflation pressures
Britain is a net importer of goods – and as the pound weakens, buying foreign products gets pricier, stoking inflationary pressures. "Higher import prices are feeding through to consumers because of the fall in sterling since the EU referendum vote," Andrew Sentance, senior economic adviser at PricewaterhouseCoopers, said after the last inflation report. "Over the course of next year, we should expect inflation to rise above the Bank of England's 2-per-cent target. This will squeeze household spending power and add to the slowdown in the economy in 2017."
Herein lies Mr. Carney's predicament: The Bank of England cut rates in an effort to support the British economy after the referendum result. But if inflation climbs beyond a reasonable level, Mr. Carney may be forced to tighten policy.