Jon Cunliffe: Monetary and financial stability and the invasion of Ukraine

Speech by Sir Jon Cunliffe, Deputy Governor for Financial Stability of the Bank of England, at the European Economics & Financial Centre, London, 4 April 2022.

The views expressed in this speech are those of the speaker and not the view of the BIS.

Over the past 2 years, the UK has seen three economic and financial shocks: the final stage of Brexit, the Covid pandemic and most recently, the Russian invasion of Ukraine, which the Bank of England has made clear it condemns. I want to talk today about the impact on the UK economy and on UK financial stability of the last of these. We do not of course know the outcome of Russia's aggression in Ukraine; there are many courses the conflict could take. And it may be many years before we know whether this will be a structural, long lasting change in what is now essentially an integrated global economy. But I think it is possible now to see at least some of the channels through which it is affecting the UK and broadly, the scale and direction of the impacts in the near term. Starting points matter. The UK economy entered 2022 still affected by two major impacts of the path out of Covid – very high imported inflation, and a very tight labour market with strong pay growth.

Imported UK inflation Imported inflation has been the primary driver of the sharp increases in inflation we have seen in the UK, reflected in both goods and energy (chart 1). Goods prices have risen because of supply side frictions generated by the rapid reopening of much of the global economy, the rotation of demand from services to goods, and because of the fact that, once past the initial phase of the pandemic, demand in advanced economies was strong relative to economic activity – primarily as a result of policy support. For example, chart 2 shows that UK household incomes did not fall as much as GDP. The initial phase of the pandemic was disinflationary. But as economies recovered in fits and starts over the course of last year, supply, itself damaged by the pandemic, could not keep pace with demand. This has been the underlying driver of global goods prices and, until the prospect grew of a Russian invasion of Ukraine, of the rise in global energy prices. Over half of the shortfall in European gas storage in 2021 was accounted for by higher LNG demand in Asia.