Bank of England Quarterly Inflation Report

November 16, 2011

The striking thing about today’s report is not that lower paths for growth and inflation are projected now than in the August Report but how much more bearish in the intervening three months.  The forecasts assume unchanged monetary policy, that is a 0.5% Bank Rate and GBP 275 billion of quantitative easing versus the same interest rate but a lower GBP 200 billion asset purchase ceiling assumed in the August forecasts. 

In the new forecasts, growth essentially stalls in the first half of 2012 and averages less than 1% for the whole year.  Not until early 2013 does economic growth return to 2%.  This baseline scenario reflects worsened growth prospects in the euro area and other export markets, considerable fiscal drag, and tighter credit conditions associated with the crisis.  The more somber growth picture means a larger excess of unused productive resources, which combines with other disinflationary factors like the base effect of this year’s VAT hike and a softer path of commodity prices to depress British inflation sharply.

  • From 5.0% now CPI inflation, which has exceeded 3.0% since the beginning of 2010, drops below the 2% target by mid-2012 and eventually slips even marginally under 1.0% early in 2013.
  • At the end of the two-year policy horizon, inflation is no higher than 1.5%. 
  • It’s still well below 2% at the end of 2012.
  • Whereas in August, officials foresaw roughly even odds that inflation would be above 2.0% by 2Q13, the probability of above-2% inflation in 2013 is now put at around 30%.  Even at end-2014, the likelihood of sub-2% inflation is around 60%.

The above probabilities assume the new baseline macroeconomic forecasts.  In addition, Bank of England officials perceive that risks surrounding that scenario are much more skewed to the downside than they were at the time the August Inflation Report was prepared.  Two inferences to draw from this much darker view are

  1. That the Monetary Policy Committee, which at its October 6 meeting raised the asset purchase program limit by GBP 75 billion to GBP 275 billion will implement even more quantitative stimulus in the future.
  2. Fiscal restraint is a poor way to rein in the budget deficit when the global economic prognosis is poor. 

The December monetary policy decision will be unveiled on the 8th.  Minutes of the November meeting are due a week from today.

Copyright 2011, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.

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