Yesterday I reviewed part of the picture of UK monetary policy. The two main features were an inflation rate now below its official 2% target (1.3%) and a currency which has been weakening. The nuance to this is that in my opinion the UK needs quite a lot of disinflationary pressure to keep inflation below target. Whilst the Euro area worries about inflation becoming “Too low for zero” as Elton John put it we have found ourselves going from above to below target. The tuition fee issue is an example of the way our economic system works to keep inflation going and like buses another example can be expected along soon. This is an important nuance as we wait to see if below target inflation is treated in the same manner is the above target version. After all above target inflation was ignored for around four years and at it worst it had an equivalent divergence to inflation nudging below -1%.
The issue of the UK Pound’s exchange rate is an interesting one as what one might call “benign neglect” of it has seen some of the beneficial effect of falling oil and commodity prices eroded by it. It makes me wonder if Mark Carney has morphed into Mervyn King who of course loved it when the Pound fell in value. Putting it another way since the Pound’s peak the oil price has fallen by 29% but 9% of this has been offset by a fall in our exchange rate versus the US Dollar. That is awkward as which is the easing of policy now? We are seeing both an output and an inflation boost.
Issues surrounding the exchange rate were discussed by Kristin Forbes yesterday in a speech given to Queen Mary University. For those unfamiliar with her she is one of the two Carney’s cronies we imported from international organisations to boost the number of women at the Bank of England. A worthy cause although it remains a shame that no British women were considered worthy. If you wish to distinguish between Kristin Forbes and Nemat Shafik then so far Ms Forbes has shown signs of intelligence as opposed to the lack of it showed so far by the other.
In essence the analysis suggest that the banking sector in the UK has contracted its operations internationally by a considerable amount.
This recent financial deglobalization is driven by a massive contraction in international banking flows – in which the UK plays a critical role. Not only have UK resident banks withdrawn more cross-border lending than any other
banking system, but other countries’ banks have reduced their cross-border lending exposure to the UK on a
scale that is large even when measured relative to the scope of the UK economy.
Indeed she thinks that we have in this area taken the advice of Kylie Minogue to “Step Back In Time” a considerable distance.
Cross-border financial flows for these countries (scaled by the size of their economies) are now as “globalized” as they were in the year 1983.
There is plenty of food for thought there as we consider the impact of the credit crunch in this area. But one cannot avoid the main implication which is that the UK banking sector has retrenched so much that it seems unlikely to be much of a positive influence on our economy. This has considerable implications as shown in the quote below and the emphasis is mine.
A reduced international banking network could affect: access to credit for certain sectors; the safety and transparency of international banks; liquidity and volatility in some markets; the role for other countries and shadow banking in providing financial services; and how the UK current account deficit is financed
So if we continue the theme then a struggling current account is likely to need a lower exchange rate on average going forwards if it is to be financed. A central banker is unlikely to be much clearer than that as we appear to return to the philosophy of past Bank of England Governor Mervyn King! I guess he is saying “I told you so” as puts on his ermine and attends the House of Lords.
What about Base Rates?
There is a clear implication for the path of Base Rates from that analysis. An economy which is weakened via the sort of analysis undertaken above is less likely to need future interest-rate rises. This is reinforced by the section below and gain the emphasis is mine.
But it does suggest that as global banking networks contract, there may be less room for cross-border banking flows to counteract the lending channel for monetary policy. As a result, traditional monetary policy could become more effective in a world of less globalized banking networks.
That is a fascinating conclusion because you could argue (as I would tend too) that it would make monetary policy less effective. However we are clearly being fed tow things here. Firstly any need for interest-rate rises is being downgraded and should they be required the scale of them is being downgraded. My apologies to any savers reading this! As Elton John put it “Please do not shoot the piano player”.
What about the Beatles?
Ms Forbes references the fab four and their impact on the UK Current Account back in their time and the details are intriguing.
Their ticket sales, appearance fees, music royalties, merchandise licensing, and performance rights earned them large sums of foreign currency, which they then brought home and converted to sterling.1 From 1964 to 1966 the Beatles toured in the United States and other foreign countries, earning world-record dollar concert receipts. Media reported that they could earn as much as $650/second in today’s dollars. These foreign receipts are booked as “service exports” in international accounting terms and helped reduce the UK’s current account deficit.
I find it fascinating that their sales were material on a country-wide scale. Perhaps if John Lennon could have been persuaded to continue touring then the UK’s 1967 currency devaluation could have been avoided. How bizarre.
The mention of the Beatles is intriguing from someone who has been criticised for having virtually no experience of the UK (she once spent a holiday here is about the sum of it and does not live here now). Of course the Beatles were also extremely popular in the United States.
What about today’s wages data?
The latest annual survey results for the UK are in and the headline is stunning,albeit sadly stunningly bad!
In April 2014 median gross weekly earnings for full-time employees were £518, up 0.1% from £517 in 2013. This is the smallest annual growth since 1997, the first year for which ASHE data are available.
Adjusted for inflation, weekly earnings decreased by 1.6% compared to 2013. The largest decrease was between 2010 and 2011, but inflation-adjusted earnings have continued to
decrease every year since 2008, to levels last seen in the early 2000s.
I think that scotches any Base Rate rise talk for now don’t you? Also we are reminded of the difference between now and the pre credit crunch era.
Up until 2008, growth was fairly steady, averaging at around 4% each year.
Here is a real nuance for you which is that around 70% of us are still getting that sort of pay rise (h/t @statsjamie ) but the rest of us must be getting pay cuts for the numbers to work.
If we bring this up to date then the Bank of England Agents tell us that not much has changed.
Pay settlements had mostly remained modest. A tightening
labour market had led to some upward wage pressure in
subsectors with skills shortages.
So what have we learnt today? Firstly if we also take in the Bank of England Minutes that in the words of the Pet Shop Boys the majority of the MPC will take the latter of the two choices below.
Which do you choose, a hard or soft option?
There is something of a rationale for this right now if we look at the current state of play and especially the new data on wage growth or rather the lack of it. Although of course that ignores the fact that the Bank of England is supposed to be looking two years ahead. Mind you in the words of the Style Council there seems to be an example of “Ever changing moods” in play about timing.
As the impact of the latter waned and the
margin of spare capacity was eroded, inflation was expected to return to the 2% target by the end of
the three-year forecast period.
What happens in three years? Well Mark Carney will be (nearly gone)…….
Oh and if you recall the Ben Broadbent speech that told us that in essence current account problems do not matter much, one of his colleagues has just contradicted him.