The U.K. (UKGRABIQ) economy is ready for battle.
With the fastest growth among Group of Seven nations, Britain may have built up enough momentum to weather the possible loss of Scotland in today’s referendum, or to keep strengthening if the union survives. The economy has expanded for six straight quarters, payrolls are at a record high and authorities have forced the biggest banks to build capital reserves to steel themselves against shocks.
The U.K. has come a long way since 2007, when record debt and unfocused bank oversight sowed the seeds of the financial crisis. Bank of England Governor Mark Carney is keeping interest rates at a record low amid weak wage growth to ensure the recovery is beyond doubt, and can also maintain that policy stance for longer if uncertainty after a “yes” vote weighs on the economy.
“There’s a fair bit of resilience, you only have to look at how well the economy’s performed all through last year and the start of this year while our biggest trading partner, Europe, was in recession,” said Azad Zangana, an economist at Schroder Investment Management Ltd. in London. A split probably wouldn’t mean a major impact, “but there would still be a noticeable hit to business and consumer confidence.”
As both sides pushed their arguments in the final day of campaigning yesterday, the latest polls showed the race too close to call. Voting began at 7 a.m. local time.
The Organization for Economic Cooperation and Development forecast this week that the U.K. will grow 3.1 percent this year. That would be the fastest among the world’s largest economies after China and compares with a 2.1 percent projection for the U.S.
Gross domestic product has returned to its pre-crisis levels, and the labor market is on the mend, giving a boost to consumer sentiment that’s helping entrench the revival from the deepest recession since World War II. Data yesterday showed unemployment dropped to a six-year low in the quarter to July.
At the same time, the central bank has taken a tough stance on banks since it gained unprecedented oversight powers last year. It forced Britain’s five largest lenders to plug a 13.4 billion-pound ($22 billion) capital shortfall to withstand possible losses and this year put a limit on riskier mortgages.
Carney, who is also chairman of the Financial Stability Board, says regulators may produce this year a framework to shield taxpayers from the collapse of a global financial institution. That wasn’t the case when Lehman Brothers Holdings Inc. went bust in 2008 and triggered an economic meltdown; nor did the BOE have the tools to respond to the liquidity squeeze that led to a run on Northern Rock Plc in 2007.
That’s not to say the dissolution of the 307-year-old union would be plain sailing. During the proposed 18 months of negotiations to effect a divorce, wrangling between the governments in Edinburgh and London could have a destabilizing influence on households and businesses, weaken the pound and push up sovereign borrowing costs. Sterling has fallen 1.8 percent against the dollar this this month. It was little changed at 1.6299 as of 9:08 a.m. London time.
As well as how to divide the U.K.’s debt and its oil and gas reserves, at issue in the event of a split would be what currency Scotland uses, the potential relocation of banks and who provides a backstop to the financial sector.
“It’s pretty safe to say that the infrastructure at the BOE is much more capable of avoiding a liquidity shock such as we saw in 2007,” said Neville Hill, an economist at Credit Suisse in London. “In terms of the rest of the economy, the uncertainties for business that would be raised by independence would be capable of derailing the expansion.”
Some evidence of a slowdown has emerged. An index of factory growth fell to the lowest in more than a year in August, and a strengthening in services was undercut by slippage in measures of new orders and confidence.
At their Sept. 3-4 policy meeting, BOE officials noted that exchange-rate volatility had risen as investors “became more uncertain about the outcome of the referendum.”
Still, the minutes of the decision yesterday revealed that the “most significant development” in the month was the deterioration in the euro-area economy, the U.K.’s biggest trading partner. Officials kept the rate at 0.5 percent to preserve a buffer against shocks and shield the recovery were the situation in Europe to worsen.
Carney has based part of his case for continuing loose policy on sluggish wage growth. Basic pay is rising at an annual rate of 0.7 percent, less than inflation and the lowest on record. While the squeeze on living standards is already enough to limit the role of consumer spending in the recovery, a “yes” vote today has the potential to further stymie retail activity.
The first results of the ballot are due around 2 a.m. local time. The urban centers of Glasgow and Edinburgh, where about a quarter of the electorate lives, may not start reporting until 5 a.m. Concern about the vote may have already taken a toll by undermining confidence and decisions.
A hit to the economy this month may not last into the fourth quarter. BOE officials Martin Weale and Ian McCafferty maintained their call this month to increase the benchmark rate by 25 basis points, saying signs of easing growth “were as yet only tentative.”
“There might therefore be some pent-up demand released in the event of a ‘no’,” said Melanie Baker, an economist at Morgan Stanley in London. If there’s a “yes” vote, “uncertainty could moderate somewhat, and relatively quickly, if negotiations proceeded swiftly and smoothly. However, that is not a given.”