According to analysts at TD Securities, the Brexit puzzle remains unsolved as the risk scenarios such as no Brexit deal, snap elections, and a new referendum cannot be fully ruled out.
Key Quotes
“The BoE’s response function to Brexit would be the key determinant for rates. The market is currently pricing in 20bps of hikes in 2019, but the path ahead remains dependent on the likelihood of two main scenarios:
- Base case (75%): The EU and UK reach a deal in December and pass it through their respective parliaments in Q1 2019. In this scenario, we expect the BoE to hike in May and November 2019. The overall momentum in UK data is still holding up in line with the Bank of England’s broad expectations. A smooth Brexit deal supported by the Chancellor’s accommodative Autumn budget should pave the way for two rate hikes in 2019. However, we do acknowledge the downside risk to our call if political uncertainty continues.
- No deal Scenario (25%): The trade-off between the MPC’s commitment to its inflation target and monetary support to the economy is likely to be challenged in this case. There are constraints on the supply side of the economy that limit the effectiveness of the BoE’s monetary tools. We think that the MPC would hesitate to cut interest rates initially, and may simply end up leaving rates on hold for a longer period. However, as an immediate support, the BoE could consider employing credit easing measures such as the Funding for Lending Scheme (FLS) to provide liquidity to the banking sector.”
“While we expect the Withdrawal Agreement to be approved by Parliament, it could take repeated votes in a highly politically charged and volatile environment. Even after parliamentary approval, the legislative process to pass all the required laws ahead of the 29 March Brexit deadline will dominate the first few months of the year. Thus event-risks are likely to subside only after the official Brexit day. Reduced uncertainty and a clear transition period should then pave a path for the BoE to normalize its policy.”
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