On July 15, 2013 the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with the United Kingdom.1
Economic recovery in the UK continues to be slow and fragile, as domestic deleveraging pressures remain and external demand is weak. Economic activity is projected to recover going forward, but the pace of expansion is expected to be weak relative to the scale of underutilized resources. As a result, the output gap is projected to remain sizeable for an extended period, portending the risk that continued cyclical weakness will lead to a permanent loss in the economy’s productive capacity. Inflation has remained stubbornly above the two percent target, owing largely to increases in administered and policy-driven prices. Underlying inflation is, however, modest. Against the backdrop of a large output gap, inflation is expected to decline to the 2-percent target over the medium term. Risks to this central scenario remain to the downside, including from a reemergence of financial stress in the euro area and larger-than-expected headwinds from public and private sector deleveraging.
Current polices aim to rebalance the economy and strengthen financial stability. Significant progress has been made toward reducing fiscal risks, notably through front-loaded consolidation. In light of weak recovery, however, the pace of structural fiscal consolidation slowed in FY 2012/13 (April-March), while flexibility in the fiscal program allowed automatic stabilizers to operate fully. Current fiscal plans envisage additional discretionary fiscal tightening of £10 billion in FY 2013/14, and will result in an acceleration of the pace of structural consolidation.
Monetary policy in the UK has been highly accommodative to help bolster the recovery. In addition to cutting the policy rate aggressively, the Bank of England has engaged in Quantitative Easing, amounting to a cumulative £375 billion (about a ¼ of gross domestic product), and, jointly with the Her Majesty’s Treasury, launched the Funding for Lending Scheme, aimed at lowering bank funding costs. The transmission of accommodative monetary policy to credit has, however, only been partially successful. Mortgage rates have declined sharply and corporate bond and equity markets have recovered strongly. But bank lending, notably to sectors of the economy unable to post high-quality collateral, such as small and medium size enterprises (SMEs), remains very weak, as bank balance sheets remain impaired.
To advance financial sector repair, the authorities have recently conducted an Asset Quality Review and laid out plans to strengthen banks’ capital position. The financial regulatory structure has also being revamped, with the establishment of three new bodies—the Prudential Regulation Authority, Financial Conduct Authority, and Financial Policy Committee—aimed at bolstering financial stability.
Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the First Deputy Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country’s authorities. An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.