Bank of England Forward Guidance keeps flip-flopping

One of the long-running themes of my work is that central bankers run in a pack or if you are feeling harsh have a job-share on the same brain cell. In my interview with earlier this week I described them as being like Stepford Wives. So you can imagine I was expecting to hear from the Bank of England which has been pretty quiet through a phase where we have seen interest-rate cuts from the US Federal Reserve and the European Central Bank of ECB amongst others. Indeed according to the Wall Street Journal the Bank of Japan is on the case as well.

Bank of Japan Gov. Haruhiko Kuroda said Tuesday cutting short-term interest rates would be effective in buoying the economy, confirming that the option remains on the table despite a backlash from the financial sector.

So enter Michael Saunders of the Bank of England who is giving a speech in Barnsley and he set out his stall early.

With persistently high Brexit uncertainties and softer global growth, the UK economy has weakened markedly in recent quarters, opening up a modest amount of spare capacity.

Although it is only one sentence there are already two problems with this. The first is that the Brexit uncertainty strengthened the UK economy in the first quarter with GDP growth of 0.5%. Also we can see that he is back to the Ivory Tower view of events where “spare capacity” is based on the output gap. As a reminder the following sequence of events would be comical if they were not so serious. But we were guided towards an unemployment rate of 7% then to “equilibrium” unemployment rates of 6.5%, 6%,5,5%, 4.5% and well you have the idea. In essence and this is another theme their so-called theory in fact simply chases reality after a delay.

Next we get a bit of a standard Bank of England statement.

The economy could follow very different paths depending on Brexit developments. But in my view,
even assuming that the UK avoids a no-deal Brexit, persistently high Brexit uncertainties seem likely
to continue to depress UK growth below potential for some time, especially if global growth remains disappointing.

Here he seems to be mixing two concepts as he meshes the Brexit issue with the global situation. Sadly he is ploughing on with the output gap theory and I am sorry to say he is embarrasing himself as the tweet below from Nicola Duke shows.

When BoE Saunders voted hikes in 2017: Wages 2.3%  CPI 3.1%  GDP 1.7%  Unemployment 4.7%


Today he wants cuts: Wages 3.9%  CPI 1.7%  GDP 1.8% Unemployment 3.8%


These people are paid to do this. I’m not an economist but my common sense tells me they don’t do a very good at their job.

As you can see the idea of using the labour market as a signal for an Ivory Tower style output gap falls flat on its face here. Wage growth is now much better and the unemployment rate is a fair bit lower.

So what is the prescription from Dr Saunders? The emphasis is mine

In such a scenario – not a no-deal Brexit, but persistently high uncertainty – it probably will be
appropriate to maintain an expansionary monetary policy stance and perhaps to loosen further. Of course, the monetary policy response to Brexit developments will also take into account other factors
including, in particular, changes in the exchange rate and fiscal policy.

Forward Guidance

Let me now link all this to the title of my piece today and look at the latest version of Bank of England Forward Guidance from last week’s Minutes.

In the event of greater clarity that the economy is on a path to a smooth Brexit, and assuming some recovery in global growth, a significant margin of excess demand is likely to build in the medium term. Were that to occur, the Committee judges that increases in interest rates, at a gradual pace and to a limited extent, would be appropriate to return inflation sustainably to the 2% target.

That didn’t last long did it? If we consider the theory it is yet another disaster for the output gap theory of the Bank of England’s Ivory Tower as the “significant margin of excess demand” lasted for all of one week!

As for Micheal I am afraid it is even worse because as recently as the 10th of June he was telling us this. The emphasis is mine

To sum up, in my view, the output gap is probably closed and, assuming a smooth Brexit (as well as the
asset prices prevailing at the time of the May Inflation Report), risks to consumer spending probably lie to the
upside of the latest IR forecast. This would push the economy even further into excess demand than the
central projection in the latest IR, with the jobless rate likely to reach new lows. In turn, this would be likely to
reinforce upward pressure on domestic cost growth and inflation over the next 2-3 years. In this case, Bank
Rate will probably need to rise further over the forecast period than implied by the market path used in the May Inflation Report to keep inflation on target over time.

Indeed he claimed he was keen to get on with it.

But there would be costs if we delay tightening until all the potential warning signs across pay, capacity and prices are flashing red. Such an approach would make it less likely
that tightening would be limited and gradual, and more likely that the economy would face a painful

What has caused this?

Reading the speech Michael Saunders has been reading the economic surveys but seems not to have read then all as this bit illustrates.

In particular, economic growth has
slowed much more here than in the US and EA, even though the rise in global trade tensions has not led to
any actual or threatened hikes in tariffs on UK exports.

Now let me remind you of Tuesday’s Markit PMI report for the Euro area.

The survey data indicate that GDP looks set to rise
by just 0.1% in the third quarter, with momentum
weakening as the quarter closed.

The actual data for the UK is that GDP grew by 0.3% in July which wiped out the drop in the second quarter so as it stands “slowed much more here” seems rather odd.

Next we find that he is absolutely committed to his output gap theory until it does not suit.

As a result, capacity pressures are no longer increasing and may be starting to ease. To be sure, the jobless rate (3.8%) remains slightly below the MPC’s estimate of equilibrium (4¼%). But taken as a whole, business surveys suggest that capacity use in firms has fallen below average.

Oh hang on it’s now back.

In my view, the economy now (end of Q3) probably has an output gap of perhaps ⅓% or ½% of GDP or so.


A lot of this is very damning for both the Bank of England and Micheal Saunders who seems determined to live up to the unreliable boyfriend moniker applied to his boss Mark Carney. But there are other issues here and is starts well as at times like these there is much to welcome about some honesty.

For a monetary policymaker, an extra complexity is that it may well be unclear for some time which scenario
is likely to unfold.

But then look where it takes him.

However, this is not necessarily a recipe for policy inertia.

He seems to want to splash around in the dark.

I would prefer to be nimble, adjusting policy if it appears necessary to keep the economy on track, and accepting that it may be necessary to change course if the outlook changes

Also we have learned to be very afraid of statements like this.

BoE’s Saunders says he is not a fan of negative interest rates, adding that the floor for UK interest rates is close to zero, marginally positive ( @DailyFXTeam )

This is because such statements are PR in case he does vote for native interest-rates he can present it as something he did not want. So why does he feel the need to point that out?

Just for clarity “the floor for UK interest-rates” is considered by the Bank of England to be 0.1%. This replaced the 0.5% that Governor Carney kept telling us about round about the time he cut to 0.25%. Will Britney be on the Bank of England loudspeakers?

Oops, I did it again
I played with your heart
Got lost in the game

Even worse is the possibility that Michael Saunders is simply chasing the markets because as regular readers will be aware UK Gilt yields have been predicting an interest-rate cut for some time.

Number Crunching.

Here is a reply I sent to Bloomberg in response to their social media reports on the UK Pound £

In a week where use of language is being challenged how about “woes have multiplied” for a fall of all of 0.3% as I type this?





13 thoughts on “Bank of England Forward Guidance keeps flip-flopping

  1. Hello Shaun,

    basically same old…

    we don’t know what to do
    we might guess and get it wrong ,
    so we don’t know what to do
    we might do something and it probably be wrong,
    so we’ll do nothing ( as we don’t know what to do)

    but they get paid very well for this “masterly inaction”


    • forbin

      But do they know what to do or have they been trying to bolster the £ and now having to eat their words?

      You see despite BREXIT the world has been slowing down and negative interest rates being put in place I have predicted for months now the UK would have to follow.

      However will the BOE have to eat their words on negative interest rates, that is the question?

      They said they wouldn’t or put it this way some did, but if negative interest rates become the norm the BOE may have to follow.

      China Industrial profits are in decline more evidence of a competitive world and this will impact on falling inflation.

  2. Perhaps Shaun you are looking at this from a perspective or ‘narrative’ that these people are actually working for the benefit of the mass of citizens of the UK. I would recommend a bit of Professor Richard Werner (Princes of the Yen) who has some arguments as to what is really going on. It’s not pretty.

  3. What evidence is there that over the last few years the lowering of interest rates has had a stimulating effect upon the economy? I believe that industry is as little interested in borrowing as the banks are in lending, the only noticeable effect for the consumer is the price of mortgage interest, which may be diverted into consumption, but consumer credit remains expensive. Meanwhile the interest I get on my cash certainly does not encourage me to spend.

    • indeed peter , funny that . but

      “Meanwhile the interest I get on my cash certainly does not encourage me to spend”

      they have seen that hence the noises about negative interest rates on the high street savings accounts . ( effectively they are with RPI and such low returns !! )

      Shaun posted the other day I think about Germany , where certain savings accounts are being closed as they are unaffordable by the bank in this negative IR era …..

      I think some people will buy into it if the principle declines on a loan but not the IR payments…

      yah, savings such an ” old fashioned ” last century idea , gotta save the Masters of the Universe Bankers at all costs…


      • Agreed, the rational response to lower and negative interest rates is to join the party – speculation funded by borrowing.

        Just what our economy needs is a load of amateur rentiers!

  4. Hi Shaun

    It seems to me that there’s an implicit assumption in all this: that monetary policy is the main macroeconomic tool for regulating levels of activity.

    I’m sure the BOE know that this isn’t the case and, not only that, we are near the ZLB where monetary policy is of limited effect anyway.

    Clearly fiscal policy has a role to play in regulating the economic cycle. The automatic stabilisers kick in anyway but is this always enough? I doubt it and I think even Draghi has opined that fiscal policy has a role to play but, in the EZ, you run up against the constraints of the Stability and Gowth Pact.

    Here we are free of the SGP but does the separation of policy between the BOE and government mean that the BOE has to act in a way that assumes that monetary policy is all there is plus the automatic stabilisers? Because if government decides to undertake “discretionary” fiscal stimulus what is the point of forward guidance anyway? I realise there’s a spending review which perhaps gives some indication of spending but, under current circumstances, one does have to ask whether discretionary departures from these plans would be more effective than holding the line exclusively with monetary policy. Putting it another way: is the fiscal multiplier effect more reliable than “pushing on a string”?

    • Hi Bob J

      The issue of fiscal policy has been a contentious one in the credit crunch era and especially in the euro area as you say. To my mind lots of official bodies and “think tanks” have yet to fully assimilate the low level of bond yields. The fifty-year Gilt yield is 0.86% which changes things.

      The catch is finding decent infrastructure projects! I am sure there are some but we seem to get stuck with ones like Smart Meters, Hinckley Point C, and HS2. Anyway if we could then I am sure we could find a decent fiscal multiplier.

      Returning to monetary policy the Bank of England seems to have forgotten that monetary policy has leads and lags meaning that some things you need to leave alone. But they have the central planning bug,,,,

  5. Great blog as usual, Shaun. As a follow-up to my comment on your Thursday blog, l’INSÉÉ released its August update of the output agricultural price indexes on Friday. None of the 13 kinds of cut flowers for which indices are published came into season in August, but dahlias, which came into season in July, recorded a 59.2% July-to-August increase, the largest such price increase since August 2011 (74.9%).
    I read Saunders’s speech. With all its “cliff-edge” references, I got the impression he wants to be the successor to Calamity Carney.

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