Bank of England meets under shadow of new light on rates

PUBLISHED : Wednesday, 04 September, 2013, 12:01pm
UPDATED : Wednesday, 04 September, 2013, 12:01pm

The Bank of England meets on Thursday for its first monetary policy session since announcing that any rise in record-low interest rates would be tied to a drop in British unemployment.

The decision was intended to give a clearer view of the future curve of interest rates, but it has also generated new clouds of uncertainty against a background of unexpectedly strong growth.

However, that landmark policy statement means that this week’s two-day meeting of the BoE’s Monetary Policy Committee (MPC), starting on Wednesday, is expected to maintain rates and stimulus.

But this is despite market concerns over the impact of the “forward guidance” strategy.

Bank governor Mark Carney launched the bank’s new policy last month, stating that its key rate would remain at the current historic low of 0.50 per cent until Britain’s unemployment rate falls to a threshold of 7.0 per cent.

Such a drop in the unemployment rate is not expected to occur for three years, according to BoE projections.

But positive economic data has persuaded some traders that the central bank could start raising rates in the middle of 2015.

Carney has already warned that this move in so-called forward rates -- market predictions of the future path of interest rates -- could damage the fragile recovery.

“There is currently plenty of speculation in the market that the forward guidance outlined by governor Carney may not have had the desired effect,” said Rabobank analyst Jane Foley.

“After all, market rates are still pointing to the first BoE rate hike in mid-2015.”

Carney also stated last week that the BoE was ready to launch more stimulus measures if the economic recovery is hurt by market expectations of higher interest rates.

“Insofar as there is no real likelihood of a change in policy at the September BoE policy meeting, it should pass without event,” added Foley.

“That said, it is possible that the bank will feel it necessary to provide fresh direction to the market, suggesting there is a slim chance that a policy statement could be made.”

Recent official data showed that the unemployment rate remained at 7.8 per cent in the three months to June, unchanged from three previous quarterly readings. That was above the key 7.0-per cent threshold.

Britain’s economy grew faster than thought in the second quarter, recent official data showed, extending a broad-based recovery.

Gross domestic product (GDP) -- the total value of goods and services produced in the economy -- grew by 0.7 per cent in the second quarter.

That was more than double the 0.3-per cent expansion that was witnessed in the first three months of this year -- and sparked talk that the BoE might raise rates sooner than anticipated.

On Tuesday, the Organisation for Economic Cooperation and Development said that it now expected the British economy to grow by 1.5 per cent this year, nearly double a previous forecast of 0.8 per cent.

“The committee is suggesting that the bank rate is unlikely to rise until at least late-2016, whereas the yield curve is pricing in the first hike as soon as Q1 2015,” added Investec economist Philip Shaw.

He added: “In trying to influence expectations of rates, the MPC is battling better news on the economy, which continues to come in thick and fast.”

The latest data showed this week that Britain’s factories are booming, with output growing at its strongest pace for nearly two decades in August.

Activity climbed to a reading of 57.2, its best level since February 2011, in the latest Markit/CIPS purchasing managers’ index.

A reading above 50 indicates expansion, while anything below signals contraction.

The manufacturing sector meanwhile saw output and new orders rise at their fastest rates since 1994.

The BoE has embarked upon a massive stimulus programme since March 2009, when it slashed its key rate to the current level and launched a radical quantitative easing (QE) policy.

Under QE, it has so far pumped 375 billion pounds (HK$4.52 trillion) into the economy to boost lending and growth.