If the Brexit vote went in favour of staying in the European Union and the Bank of England hadn’t raised rates, it would risk a runaway economy with persistent inflation. Rates would have to rise sharply, with all the uncomfortable consequences that may bring for UK households.
The Bank of England also has a timing problem. Raising rates at around the time of a Brexit vote would be politically insensitive and risks prejudicing the outcome of the vote. At the moment, David Cameron has only committed to having the vote before the end of 2017. This would suggest that the Bank of England needs to raise rates sooner rather than later or risk missing its window.
However, the markets still believe that the Bank of England will defer. Nutmeg points out that the UK money market now implies that the probability of a rise by the end of 2016 is just 30%.
For investors, navigating round this series of unknowns is next to impossible. Forecasting the outcome of Cameron’s negotiations in Europe or the fall-out from a Brexit is little more than educated guesswork. Unfortunately, it also has the potential to influence returns from bond and equity markets significantly. Diversity may be the best answer.
