United Kingdom: 2014 Article IV Consultation-Staff Report; Press Release; and Statement by the Executive Director for the United Kingdom

KEY ISSUESThe economy has rebounded strongly and prospects are promising. Headwinds thatpreviously held back the economy—relating notably to credit conditions andconfidence—have eased. Nonetheless, sustaining strong growth will depend on arecovery in productivity growth and further demand rebalancing. The housing marketbrings risks of financial vulnerabilities. Sterling is moderately overvalued.The overall policy mix is appropriate, but policy settings might need to be adjustedquickly. Effective monetary conditions are very supportive, compensating for ongoingfiscal consolidation:? Accommodative monetary policy is appropriate for now, given weak inflationpressures, but policy might need to be adjusted quickly if inflation takes off. Interestrate increases may also need to be considered if macroprudential tools areinsufficient to deal with financial stability risks from the housing market.? The authorities have recently implemented macroprudential measures, includinglimiting the share of high loan-to-income mortgages lenders can issue, establishingthem as the primary defense against housing-related risks. They should stand readyto tighten these limits should current settings prove ineffective in reining in thoserisks.? A lasting solution to house price pressures requires measures to address insufficientsupply. Significant planning reforms have been undertaken, but political consensus isneeded to make further progress in this area.? High deficits and rising debt mean that fiscal consolidation needs to continue. Thepace and composition of deficit reduction over the near term is appropriate. Furtherreducing the deficit over the medium term will be challenging; both revenue andexpenditure measures should be considered, keeping in mind both equity andefficiency.? The financial sector is more robust, the new financial architecture is settling in, andsignificant changes have been made to banks' liquidity backstops to adapt tochanging needs. Implementing macroprudential policy will be a test of the newarchitecture. Some problems—such as Too Important To Fail and bank misconduct—persist, and new challenges, such as from shadow banking, are emerging.