Bank of England Preview: Stance to Remain Unchanged

March 3, 2010

At 12:00 GMT on Thursday, the Monetary Policy Committee is likely to announce a decision to leave the key Bank Rate at 0.5%, its level for the past twelve months and to retain a Gbp 200 billion cap on the asset buying program, which was exhausted by the end of January.  Rhetoric by Bank officials, who detect considerable medium-term headwinds against growth, has been dovish since the last meeting a month ago.  The minutes from that meeting would not rule out the possibility of extending quantitative easing some time in the future if necessary, and Governor King and others have repeated that message.  But that possibility is a conditional one, requiring a clear relapse in the recovery, and that hasn’t happened.

  1. Britain’s manufacturing PMI stayed at a respectable 56.6 in February, while the service-sector PMI reading climbed 4.1 points to 58.4.  The sum of those two scores, 115.0, compares to 108.4 three months earlier, 103.8 last August, 97.1 last May and 78.1 a year ago.
  2. Real GDP returned to the black last quarter, rising 0.3% (1.2% annualized), with increases of 3.7% in exports, 1.2% in government expenditures, and 0.4% in personal consumption.
  3. On-year CPI inflation of 3.5% has risen this year, boosted by restoration of higher value added taxation.  It may climb further, and last month’s minutes revealed some concern that although the spike should be temporary, it could lift expected inflation particularly if the Bank of England were to ease monetary policy now.
  4. House price inflation is climbing.  The Nationwide index posted an on-year increase of 9.2%  in February, up from 2.7% in the year to November.  The central bank minutes also observed that asset price inflation would be a risk of the very accommodative policy stance.
  5. The latest readings of consumer confidence was 80 according to the Nationwide index, up from 70 two months earlier.  Likewise, the retail sector monthly survey by the business lobby, CBI, showed a rebound to 23 in February from minus 8 in January.

The February quarterly Inflation Report concluded that inflation over the coming three years would be likely to be under the 2% target more time than above such if the present policy stance is maintained throughout.  However, policymakers last month concluded that because of immense uncertainty associated with the outlook, any easing then would constitute policy “fine-tuning,” which they do not want to engage in.  A more definitive change in the outlook would have to occur to prompt further easing.  One worrisome trend, the slowdown of on-year M4 growth to 4.9% in January from 9.3% in November and 12.1% last August, is not a sufficient game changer in that regard.  Meanwhile, officials believe that a period of policy wait-and-see will better enable them to quantify the effect of their quantitative easing thus far.

Finally two further points.  First, British monetary conditions have eased in a passive yet substantial way since policymakers met a month ago.  The net 4.7% net depreciation of the trade-weighted pound packs a boost equivalent to a rate cut of slightly more than 100 basis points.  That’s more than ample in present circumstances.  Secondly, fixed-income markets have become very sensitive to large fiscal deficits, which in Britain’s case exceed 10% of GDP and are especially worrisome given the possibility of a hung parliament after this years election, unable to enact an appropriately tough strategy of medium-term deficit containment and reduction.  If the Bank of England were to ease in the absence of absolutely compelling reasons to do so, investors would become even more jittery and possibly send long-term U.K. yields up sharply further.

As in February, I expect the vote for not policy changes to be unanimous, 9-0.

Copyright Larry Greenberg 2010.  All rights reserved.  No secondary distribution without express permission.

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