Bank of England Preview
January 11, 2011
Bank of England policy is stalemated, with the Bank Rate at 0.5% since March 2009 and the GBP 200 billion limit on the asset purchase program exhausted since end-January 2010. The October, November and December meetings of the 9-person Monetary Policy Committee (MPC) produced single dissents in both directions. Andrew Sentance favored a 25-basis point rate hike as he as been doing since June 2010, while Adam Posen has wanted to lift the asset purchase limit to GBP 50 billion. The minutes of the December meeting showed a majority increasingly worried about short-term inflationary pressure and shifting the bias of price risk to the upside from neutral in the short run.
This is no time to tighten monetary policy, as fiscal austerity has now struck with a vengeance as value added taxation climbed 2.5 percentage points to 20% at the start of the present month. In advance of such, the service sector purchasing managers index slumped from 53.0 in November to a 20-month low of 49.7 in December, and the construction PMI fell to a ten-month trough of 49.1. Manufacturing continues to show resilience but not enough to prevent a slowdown of overall GDP growth from 4.6% annualized in 2Q10, 2.9% in 3Q, around 1.5% in 4Q and less than 1.0% in the present quarter. Paul Fisher, a member of the MPC has warned of the risk of negative growth in a calendar quarter this year. The government is relying on net exports to power the economy through this period of restructuring, but that plan could be undermined by Continental Europe’s sovereign debt woes. As a share of GDP, the U.K. current account deficit widened from 1.7% in 2009 to 2.2% in 1H10 and 2.6% in 3Q10, and the unemployment rate rose to 7.9% in August-October from 7.7% in 3Q.
All this is not to diminish Britain’s inflation problem. CPI inflation surpassed 2.9% all last year and picked up to 3.3% in November with a core rate of 2.7%. Commodity prices like Brent oil remain elevated, and the price components of the PMI surveys indicate significant cost push strains. A Bank of England quarterly survey of inflation attitudes revealed a disturbing acceleration to 3.9% in December from 3.4% in September. It has become fashionable in the central banker community to put great emphasis on measures of expected inflation. While Britain’s bond premium versus Germany is nothing close to what the euro area peripherals are experiencing, no central bank in the present atmosphere would risk easing monetary policy in the face of rising actual and expected inflation especially for an economy that is not in recession. Upcoming wage contract talks put yet another nail in the coffin of QE2 at this time, not that such is needed.
On Thursday at 12:00 GMT, the Monetary Policy Committee will announce no change in its Base Rate or its asset purchase program. Minutes of this week’s meeting will be published on January 26. Until then, investors will not know anything more than the decision and must wait to learn the latest thinking of policymakers and how they voted.
Copyright Larry Greenberg 2011. All rights reserved. No secondary distribution without express permission.
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