Today’s blog post title goes against quite a lot of conventional wisdom in the UK where we are continually promised that Base Rate rises are just around the corner. So far however we have found ourselves on a straight road and the chances of that continuing have moved higher. It was only last Thursday that I pointed out on here that the Bank of England was moving away from its promises of a Base Rate rise which continued a theme I had opened on the 27th of December last year.
So should we see any slowing of the UK economy in 2014 and the exchange rate of the pound continues to be strong there are factors pointing towards a base rate cut. This would be reinforced if the pound strength actually pushed inflation to below its target. The MPC would be likely to ignore the years of inflation being above target and concentrate myopically on the immediate figures in such a situation.
Okay so what grounds might there be for a Base Rate cut?
Some of these have been established this morning in a speech given by Bank of England Chief Economist Andy Haldane in Kenilworth.
So far, then, so bad. On this evidence, the UK economy is as weak as at any time in the recent or distant past. It is firmly on the back foot.
Okay Andy so what ground do you have for thinking in such a way? The emphasis below is mine.
Annual real wage growth in the UK – average weekly earnings growth adjusted for consumer price inflation – is currently running at close to minus 1%. Growth in real wages has been negative for all bar three of the past 74 months. The cumulative fall in real wages since their pre-recession peak is around 10%. As best we can tell, the length and depth of this fall is unprecedented since at least the mid-1800s.
Regular readers will be aware of this issue but I thought the sentence I emphasised a fresh way of looking at it. Some of you may already have spotted that he has missed a trick as the real wages data would look worse if he had used the Retail Price Index. As he is using data supplied by the Trade Union Congress for their Britain Needs A Pay Rise campaign I suspect they have missed a trick too. Oh and using an index (CPI) only just over a decade old to go back more than a century has its dangers.
Next up we got this.
Productivity – GDP per hour worked – was broadly unchanged in the year to 2014 Q2, leaving it around 15% below its pre-crisis trend level. The level of productivity is no higher than it was six years ago. This is the so-called “productivity puzzle”. Productivity has not flat-lined for that long in any period since the 1880s, other than following demobilisation after the World Wars.
Okay so a further problem and particularly troubling that it has not picked up as our economy has pushed forwards and had a better spell.
There is something of a departure for a Bank of England official in this next section which I wholeheartedly welcome. It is considering the effect of the credit crunch on savers.
Annual real interest rates – for example, rates earned by households on time deposits adjusted for consumer price inflation – are around zero. They have been near-zero for close to four years. Real deposit rates have not been that low since the 1970s, when inflation was in double digits.
This is something of a change as I can remember Deputy Governor the aptly named Charlie Bean telling us this back in September 2010. He replied “Yes” to this question posed by Channel four news.
This bad news for savers is the point of what you are doing?
Now Andy Haldane is implying that this is one of the things which have weakened the economy. Oh and Charlie Bean was displaying his usual anti-prescience skills back in September 2010.
At the current juncture, savers might be suffering as a result of bank rate being at low levels, but there will be times in the future — as there have been times in the past — when they will be doing very well.
So far some four years later such a situation has yet to arrive Charlie! Still I suppose that having retired with a pension fund valued at £3.96 million he has hardly noticed.
The Agony Index
Andy Haldane uses the concepts and data above to create an agony index which is not especially pleasant reading.
The agony index is currently at painfully low levels.
It has been around 5 percentage points below its 1970-2014 average since 2008. Such an extended period of agony is virtually unprecedented going back to the late 1800s, with the exception of the aftermath of the World Wars and the early 1970s.
Bank of England Forecasting Accuracy
The emphasis is mine.
And if you believe the MPC’s growth forecasts, that recovery is set to continue in the period ahead.
Indeed one of my themes has been confirmed here and it is nice to see some refreshing honesty for a change.
These suggest that the MPC, in common with every other mainstream forecaster, has been forecasting sunshine tomorrow in every year since 2008 – that is, rising real wages, productivity and real interest rates. The heat-wave has failed to materialise. The timing of the upturn has been repeatedly put back. Downside surprises have been correlated.
The future does not look especially bright
In the UK, real interest rates are now expected to remain negative for at least the next 40 years. An alternative hypothesis is that these developments reflect pessimistic expectations about future growth prospects, which are mirrored in expected policy rates needing to remain lower for much longer.
You may note that the “lower for longer” mantra of Forward Guidance has found the word “much” added to it. Yet another change? Perhaps and maybe soon we will be following the Bank of Canada and moving away from Forward Guidance completely.
Some care is needed here as we have just concluded that forecasts are not far off hopeless right now but the summary of wages and the labour market is also somewhat ominous.
Taken together, this paints a picture of a widening distribution of fortunes across the labour market – a tale of
two workers. The upper peak of the labour market is clearly thriving in both employment and wage terms. The mid-tier is languishing in both employment and real wage terms. And for the lower skilled, employment is up at the cost of lower real wages for the group as a whole.
Let us cut to the chase
Here is the implied policy judgement from Andy Haldane.
And recent evidence, in the UK and globally, has shifted my probability distribution towards the lower tail. Put in rather plainer English, I am gloomier.
There is a fair bit to consider here and let me open by pointing out that Andy Haldane has got gloomier over a period where the UK economy has apparently grown strongly again (0.7% according to the NIESR). Also the ESA 10 revisions have left our economy somewhat larger in recorded terms but little solace seems to have been gained from that. Perhaps he is not much of a fan of them either!
Also I wish to point out that there was another side to the speech as you might guess from the title of “Twin Peaks”. There was an ecstasy alternative to the agony. But I have the feeling that we are being feed a policy shift in what might be called bite-sized chunks. As I have argued before the chances of a future Base Rate cut are much higher than you are likely to read elsewhere. Please do not misunderstand me as I would not vote for it but the possibility is edging up on the horizon.
If we move to an international perspective then the United States may be edging in the same direction. Here is James Bullard of the St.Louis Federal Reserve on Bloomberg.
Inflation expectations are declining in the U.S…… “That’s an important consideration for a central bank. And for that reason I think that a logical policy response at this juncture may be to delay the end of the QE.
Now who is left raising interest-rates? Oh and did the markets or the central bankers move first?