Millions of UK households face a painful financial squeeze in a no-deal Brexit as inflation soars above 4%, a leading economic forecaster warned on Monday.
The National Institute for Economic and Social Research’s latest forecasts said the collapse in the pound even in the event of an “orderly” no-deal exit from the EU “would considerably add to price pressures” as the cost of imports soars.
It predicts the Consumer Prices Index would rise to 4.2% next year, the highest for nearly eight years and more than double the Bank of England’s official 2% target.
NIESR’s forecasts come two days before Boris Johnson, who has pledged to leave the EU on October 31 with or without a deal, is all but certain to become prime minister.
If realised, the predictions would also reverse a recent recovery in real-terms pay packets for UK workers, with pay growth at its highest for more than a decade in the quarter to May.
Inflation of over 4% would swamp the 3.6% annual pay rises being enjoyed by British workers, even before a likely rise in unemployment depresses pay.
In a no-deal Brexit the forecaster predicts sterling would fall below $1.20 “with the possibility of an even sharper fall”, hitting its lowest level for more than 30 years against the dollar.
Today the pound was trading below $1.25 after hitting its lowest since April 2017 on no-deal fears last week.
Although spiking inflation should in theory prompt interest rate rises, NIESR assumes the Bank’s rate-setters will act as previously to “look through” temporary episodes of high inflation and slash interest rates by a half a percentage point from the current 0.75%.
Several members of the Bank’s rate-setting monetary policy committee have stressed interest rates were likely to fall as long as inflation expectations remained anchored to the 2% target.
NIESR said there was even a possibility interest rates could hit an all-time low of 0.1% in the immediate aftermath of a no-deal Brexit, “though we would not expect it to remain long at that rate given the extent of the depreciation of sterling and upward pressure on inflation that would be likely in that situation”.
If the UK leaves with a deal, NIESR forecasts the economy will grow 1% in 2019 and 1% in 2020. But an orderly no-deal would be likely to lead to the economy stagnating next year before starting to grow again in 2021.