## United Kingdom—2013 Article IV Consultation Concluding Statement of the Mission

_IMF News, May 22, 2013_

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## Bibliographic details
- Published: May 22, 2013

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### Activity and outlook
- Recent indicators show improvement: purchasing indicators, demand for vehicles, and consumer and business sentiment surveys indicate an uptick in activity.
- Private sector employment growth has been notably strong.
- Per capita income remains 6 percent below its pre-crisis peak, making this the weakest recovery in recent history.
- Capital investment (as a share of GDP) is at a postwar low; youth unemployment is high.
- The most likely scenario is a prolonged period in which output is below potential (similar to the Office for Budget Responsibility).
- Risks tilted to the downside:
  - Persistent slow growth could permanently damage medium-term prospects if private deleveraging is larger than expected, credit conditions fail to improve, external demand does not pick up, or the drag from fiscal consolidation is greater than anticipated.
  - Weak euro-area growth and potential re-emergence of market tensions could cause spillovers via depressed exports, higher bank losses and funding costs, and reduced confidence.

### Policy priorities and challenges: restoring strong and balanced growth
- Restoring growth momentum and rebalancing the economy is vital to:
  - restore incomes,
  - ensure sustainability of public debt,
  - restore bank balance sheets,
  - diversify the economy away from reliance on domestic consumption.
- Both supply- and demand-side measures are needed to raise long-term expectations of potential growth and transform the economy toward higher investment and more exports.
- A coordinated multi-pronged strategy is required given constraints: monetary policy at the zero bound, impaired bank balance sheets, and rising public debt with consolidation weighing on growth.

### Monetary policy: maintain accommodative stance
- Actions taken:
  - Bank of England cut policy rates, made substantial purchases of gilts, and introduced the Funding for Lending Scheme (FLS) jointly with the Treasury.
  - The March 2013 Budget reaffirmed the 2 percent inflation target and permitted unconventional policies; it requested the Bank to explore thresholds to guide policy.
  - The FLS was modified to encourage lending to SMEs and its term extended.
- Effectiveness and transmission:
  - Transmission of accommodative policy has been weak: credit flows remain negative overall; some retail rates for unsecured lending remain higher than pre-crisis.
  - Funding rates, lending spreads, and surveys suggest both supply and demand factors are limiting credit flows.
- Recommendations:
  - Monetary policy should remain accommodative for an extended period given the persistent output gap.
  - Consider further gilt purchases and provide assurance that policy rates will be kept low until recovery reaches full momentum.
  - Enhance monetary effectiveness through complementary measures: strengthen bank health, and adopt fiscal and structural measures to boost long-term income expectations.

### Financial policy: resolve the uncertainty over banks
- Current position:
  - Financial sector repair has advanced: funding is more assured and regulatory capital ratios continue to edge up.
  - Non-performing assets remain elevated at some major banks; underlying profitability is weak.
  - Concerns include lender forbearance, under-provisioning for risky assets and conduct costs, and aggressive use of risk-weights.
- Actions needed to restore lending:
  - Following the Asset Quality Review, the PRA is identifying capital shortfalls to meet an equity capital ratio of at least 7 percent (on a fully-loaded Basel III basis) by end-2013, plus any additional bank-specific requirements.
  - Banks should build capital (new equity issuance), reduce dividend payouts, restrain remuneration, and restructure balance sheets without reducing net lending.
  - The planned 2014 system-wide stress test should cover a broad range of risks, use sufficiently stringent scenarios, and be anchored in supervisor-approved capital plans; transparency on methodology, results, and bank-by-bank capital plans is important.
- Strategy for government-intervened banks:
  - RBS and LBG together account for two-fifths of the stock of UK net private sector lending.
  - A clear strategy is needed to return these banks to private ownership in a way that maximizes taxpayer value, strengthens confidence and competition, and minimizes spillovers.
  - If a sovereign backstop is required to meet a capital shortfall, it should be provided, as this would have a high multiplier.

### Fiscal policy: bring forward growth initiatives while preserving the fiscal framework
- Fiscal track record and outlook:
  - The government set out discretionary deficit reduction measures of about £130 billion from FY 2010/11 to FY 2015/16; more than half of those measures have been implemented.
  - The government has shown flexibility: slowed structural consolidation, allowed automatic stabilizers to operate, and public sector net debt is forecast to fall in 2017-18 (two years later than the Supplementary Debt Target).
  - Several growth-supportive measures have been introduced, including increases in personal tax allowances and reductions to corporate tax rates; guarantees have been used to provide support.
- Near-term headwinds:
  - Discretionary measures for this fiscal year amount to £10 billion, posing headwinds to growth amid domestic deleveraging and weak external demand.
- Policy trade-offs and recommendations:
  - Balance debt sustainability with growth: further consolidation risks permanent loss to productive capacity, but lack of consolidation risks debt accumulation.
  - Capitalize on nascent momentum to bolster growth through measures that address supply constraints and provide near-term support.
  - In the current context (underutilized labor and cheap funding), net returns from growth-enhancing measures are likely favorable.
- Growth-enhancing initiatives to consider within the medium-term framework:
  - Bring forward planned capital investment where possible to catalyze private investment; use well-designed public guarantees to facilitate private investment.
  - Modify the composition of consolidation to boost growth, e.g., reduce marginal effective corporate tax rates and introduce tax allowances for raising equity; offset medium-term budgetary impact by reforming property taxes and considering broadening the VAT base.
  - The 2013 Budget’s Help To Buy scheme may temporarily boost housing-market confidence but risks raising house prices absent supply response; mitigate by considering fiscal disincentives for holding land without development.
- Credibility:
  - Government investment in supply-side measures will enhance, not damage, credibility given the UK’s commitment to medium-term consolidation, the Office for Budget Responsibility’s credibility, and long-duration debt.

### Structural policies: the essential pillar for long-term rebalancing and prosperity
- Structural reforms recommended (drawing on LSE Growth Commission, Heseltine Review, and government initiatives):
  - Provide retraining, including vocational training, for low-skilled workers to transition to high value-added, high-wage work; reform immigration policy to improve skills and competitiveness.
  - Invest in infrastructure (transport and energy) by streamlining planning processes and removing regulatory uncertainty; devolve more planning authority to local authorities and provide financial incentives via greater revenue sharing.
  - Reduce concentration in the banking sector to better serve firms and households and expand funding options for start-ups and smaller enterprises.

### Financial regulation: clarity and consistency
- Transition to the “twin peaks” regulatory and supervisory structure has been well managed, but:
  - Ensure greater coordination between the Financial Policy Committee (FPC) and the Prudential Regulation Authority (PRA), especially around the 2014 stress tests, to reduce regulatory uncertainty.
  - Ensure the PRA’s operational independence and adequate resourcing for intrusive supervision of globally-systemic institutions to minimize adverse spillovers.
- Toolkit and international coordination:
  - Expand the FPC’s toolkit, including powers to limit loan-to-value and loan-to-income ratios, as higher capital requirements alone may be insufficient to restrain property bubbles.
  - Internalize cross-border spillover effects when applying macroprudential tools to enhance resilience of globally-active banks.
  - Coordinate structural banking reforms internationally and address gaps: the efficacy of ring-fencing relies in part on progress toward robust cross-border supervisory and bank resolution frameworks and attention to regulatory arbitrage and migration of activity to shadow banks and non-banks.

*United Kingdom—2013 Article IV Consultation Concluding Statement of the Mission (May 22, 2013).*

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## References

- [United Kingdom and the IMF](http://www.imf.org/external/country/GBR/index.htm)
- [Mission Concluding Statements](https://www.imf.org/en/news/searchnews)
- [PRESS CENTER](http://presscenter.imf.org/)
- [Article IV](https://www.imf.org/external/pubs/ft/aa/aa04.htm)
- [https://www.imf.org/en/home](https://www.imf.org/en/home)

_Source: https://www.imf.org/en/news/articles/2015/09/28/04/52/mcs052213_