The UK is facing a trilemma with high inflation, declining growth and rising taxes

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Last week’s central banker symposium at the International Monetary Fund in Washington was a festival of hawkishness, with one notable exception: Bank of England Governor Andrew Bailey was far more careful than his peers in the Federal Reserve and even the European Central Bank in describing the difficult. balancing act between curbing inflation and maintaining economic growth.

And with good reason. Britain is facing the “worst of all worlds” with rising prices, according to Alfred Kammer, the IMF’s European director. Britain is suffering from a super hot labor market similar to what is happening in the US, as well as the runaway energy prices plaguing Europe. As a result, the IMF expects UK inflation to remain firmly above 5% next year, when other G7 countries have returned to their 2% target. At the same time, it expects Britain to fall to the bottom of the G7 league table for growth. Stagflation is a real and current danger.

In addition, there is a third element that is unique to the UK among the major economies. The Ministry of Finance appears to be determined to introduce fiscal tightening, while its central bank restrains monetary policy stimuli. The pound has fallen against the dollar to low levels not seen since the early onset of the pandemic.

This trilemma represents a particularly difficult choice for BOE. While it is ahead of both the Fed and the ECB in raising interest rates, it is fast running out of hiking trails before risking tipping the economy into recession. The consumer has hit a wall with the latest retail sales and confidence data falling at speeds not even seen during Covid lockdowns. Nevertheless, Finance Minister Rishi Sunak is raising taxes on both employees and employers this month, while energy prices for households are set to rise.

But with inflation already at 7% and heading towards double digits, the BOE needs to keep its inflationary struggle alive or further jeopardize its already shaky credibility. It’s time for a change in tactics.

The Monetary Policy Committee will most likely still raise the official bank rate to 1% at its meeting on 5 May, its fourth consecutive increase. This is the threshold at which the central bank has said it will “consider” introducing quantitative easing – the opposite of quantitative easing – by selling its government bond holdings back to the market. The bank has also committed to relieve all £ 20 billion (USD 25 billion) of its UK corporate bonds by the end of next year.

So instead of being the biggest buyer in space, the central bank will start competing with the Treasury’s debt auctions. It has already stopped reinvesting maturing holdings, enabling a redemption of £ 28 billion in early March to run out of balance. On Tuesday, the debt management office increased its planned gold-plated sale for 2022-2023 by 5% to £ 132 billion, still a significantly lower figure than the market had predicted even a month ago, leaving theoretical room for BOE sales to replace previously expected Treasury. issue.

Analysts from Bank of America Corp. expects QT to start this summer at £ 5 billion a month, rising to £ 9 billion in November. Such a pace, if combined with further rate hikes, would be the fastest and biggest stimulus reduction ever. At last week’s IMF conference, Bailey said the bank would pause active sales during “fragile markets”, but stressed that it was important to at least start the process. “You can not have the constant upward adjustment of central bank balances,” he said.

Settling monetary stimulus by selling its bond portfolio would be a more subtle way for the BOE to curb inflation than relying on the blunt instrument to raise borrowing costs. It must pay attention to maintaining financial stability: A credit crunch triggered by a too rapid decline is the last thing Britain needs. But it is time for policy makers to reach deeper into the toolbox to combat rising prices without driving the economy into recession.

More from Bloomberg Opinion:

• The Fed loses control of the inflation narrative: Lisa Abramowicz

• British house prices, meet the cost of living crisis: Stuart Trow

• The ECB must act to avoid a currency crisis: Marcus Ashworth

This column does not necessarily reflect the opinion of the editorial staff or Bloomberg LP and its owners.

Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. He spent three decades in the banking industry, most recently as a marketing strategist at Haitong Securities in London.

More stories like this are available at bloomberg.com/opinion

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