UK real wage growth continues to disappoint

Today brings us back to the domestic beat and in fact the heartbeat of the UK economy which is its labour market. This has in recent years seen two main developments. The first is a welcome rise in employment which has seen the unemployment rate plunge. But the second has been that wage growth has decoupled from this leaving the Ivory Towers of the establishment building what might be called castles in the sky.  In that fantasy world wage growth would now be around 5% except it is not and in fact it is nowhere near it.

Oh tell me why
Do we build castles in the sky?
Oh tell me why
Are the castles way up high? ( Ian Van Dahl)

Or if we look at the Bank of England Inflation Report from earlier this month.

A tightening labour market and lower unemployment is typically associated with higher pay growth  as it becomes more difficult for firms to recruit and retain staff.

This is another way of expressing the “output gap” theory which keeps needing revision as it keeps being wrong. As this from Geoff Tily shows that has been a consistent feature of Governor Carney’s term at the Bank of England.

In 2014, Bank of England Governor Mark Carney told the TUC Congress that wages should start rising in real terms “around the middle of next year” and “accelerate” afterwards” .

They did rise in the first half of 2015, but then decelerated afterwards.

Actually the Inflation Report does address the issue but only with what George Benson described as “hindsight is 20/20 vision”.

During the financial crisis, output fell and unemployment rose, as companies reduced hiring and increased redundancies. The number of additional hours people wanted to work also rose, perhaps in response to a squeeze in their real incomes. Taken together, these factors led to a substantial degree of spare capacity opening up in the labour market over this period. This, in turn, was a significant factor behind subdued wage growth during 2009–15.

It is a shame they did not figure that out at the time and looking forwards seems to be stuck on repeat.

Pay growth has risen over the past year  and tightness in the labour market is expected to push up pay growth slightly further in coming years.

At least there has been a slight winding back here but something rather familiar in concept pops up albeit that the specific number keeps changing.

This was broadly in line with the MPC’s judgement of the equilibrium rate of unemployment of 4¼%, suggesting little scope for unemployment to fall further without generating excess wage pressure.

The problem here is that an unemployment rate of 7% was supposed to be significant when Forward Guidance began although it went wrong so quickly that we then had a 6.5% equilibrium rate then 5.5% then 4.5%. The February Inflation Report gave us  “a statistical filtering model” which seems to have simply chased the actual unemployment rate lower. Along the way I spotted this.

The relationship between wage growth and
unemployment is assumed to be linear

You basically need to have lived the last decade under a stone to think that! Or of course be in an Ivory Tower.

Today’s data

This brought some excellent news so let’s get straight to it.

The unemployment rate (the number of unemployed people as a proportion of all employed and unemployed people) was 4.0%; it has not been lower since December 1974 to February 1975.

This of course has an implication for the Bank of England which has signaled an equilibrium rate of 4.25% as discussed above. Thus we can move on knowing that its improved models ( we know they are improved because they keep telling us so) will be predicting increased wage growth.

Returning to the quantity or employment situation we see that it looks good.

There were 32.39 million people in work, 42,000 more than for January to March 2018 and 313,000 more than for a year earlier.The employment rate (the proportion of people aged from 16 to 64 years who were in work) was 75.6%, unchanged compared with January to March 2018 but higher than for a year earlier (75.1%).

This is good news but needs to come with some caveats. The first is that the rate of improvement looks to be slowing which is maybe not a surprise at these levels. The next issue is more theoretical which is the issue of how we record employment and the concept of underemployment where people have work but less than they want. We do get some flashes of this and this morning’s release did give a hint of some better news.

There were 780,000 people (not seasonally adjusted) in employment on “zero-hours contracts” in their main job, 104,000 fewer than for a year earlier.

But if we switch back to the unemployment rate we know from looking at Japan that it can drop to 2.2% which means that we cannot rule out that ours will go lower and maybe a fair bit lower. So there could be a fair bit of underemployment out there still which is backed up by the attempts to measure it.

By this measurement, the number of underemployed people in the three months to June 2018 stood at 2.39 million, down 121,000 when compared with the previous quarter.

This compares to under 2 million pre credit crunch although I am not clear why these numbers consider the working week to be 48 hours?

Wages

This should be a case of “the only way is up” if we look at the Bank of England analysis.

regular pay increased by 2.7%, slightly lower than the growth rate between March to May 2017 and March to May 2018 (2.8%)……total pay increased by 2.4%, slightly lower than the growth rate between March to May 2017 and March to May 2018 (2.5%)

There is an initial feeling of deja vu as we were told this last month so the past has seen an upwards revision but there is little or no sign of the “output gap” pulling it higher. In fact bonuses fell by 6.6% on a year ago in June meaning that total pay growth fell to 2.1%. This means that in the first half of 2018 the rate of total pay growth has gone from 2.8% to 2.1% via 2.6% (twice) and 2.5% (twice). Unless you live in an Ivory Tower that is lower and not higher.

The Bank of England response mirrors their response when inflation was a particular problem for them which is to keep breaking the numbers down until you find one that does work. In this instance it takes two steps moving first to the private-sector to eliminate the public-sector pay caps and then to regular pay eliminating the bonus weakness. On that road you can point out a 2.9% increase although attempts to say it is rising have the issue of it being 3% in February and 3.2% in March. If they want more they could point us to regular pay in construction which is rising at an annual rate of 5.6% ( which of course begs a question about the official output statistics there).

Comment

The credit crunch era has been one where we have found ourselves ripping whole chapters out of economics 101 textbooks. By contrast both the establishment and the Ivory Towers have clung  to them like a life raft in spite of the evidence to the contrary. Of course one day their persistent lottery ticker buying will likely bear fruit but there is little sign of it so far. Instead they have the Average White Band on repeat.

Let’s go ’round again
Maybe we’ll turn back the hands of time
Let’s go ’round again
One more time (One more time)
One more time (One more time)

For the rest of us we see that there is more work but that wage growth seems to get stuck in the 2% zone. Even at the extraordinary low-level of unemployment seen in Japan the wage position remains Definitely Maybe after plenty of real wage falls. I am not sure that the productivity data helps as much as it used to as we have switched towards services where it is much harder to measure and somewhere along the way capital productivity got abandoned and now it is just labour. Of course all of this simply ignores the self-employed as they are not in the earnings figures and nor are smaller businesses.

 

 

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The Bank of England is now re-writing history about UK house prices

Yesterday saw the latest in a series of interviews on the Iain Dale show on LBC Radio by Ian McCafferty of the Bank of England. Actually it was the last by Ian as he is about to depart the Bank of England. Before I start I should point out that we were colleagues back in my time at Baring Securities which feels like a lifetime ago mostly because it is! His main claim to fame was declaring that the German Bundesbank would not do something at a meeting and then the door was opened by someone keen to tell the room some news which I am sure you have already guessed.

Moving forwards in time to yesterday Ian had more than a little trouble with the concept of full employment as he assured listeners that the UK was at full employment at the moment. This was really rather breathtaking as it showed a lack of understanding on two major levels. Firstly if we just stay with the unemployment rate those who read my update yesterday will be aware that Japan has seen an unemployment rate some 2% lower or nearly half ours. An odd thing to miss as our shared history involved specialising in Japanese economics and finance. Also it was a statement that on the face of it made no nod at all to the concept of underemployment where people have some work but not as much as they would like. So in his world both Japan and underemployment seemed not to exist.

Presumably Mr.McCafferty was trying to bolster the case for last week’s interest-rate rise in the UK which of course needs all the bolstering it can get but he ended up being challenged by the host Iain Dale. The response was a shift to claiming we are around the natural or equilibrium rate of unemployment but of course this led to another problem. On this road he ended up pointing out that the Bank of England has had more than a few of these but he did at least avoid a full confession that they started the game by signalling that a 7% unemployment rate was significant but now tell us that the equilibrium rate is 4.25%. Thus the reality is that they have chased the actual unemployment rate like a dog chases it tail although to be fair to dogs they usually tire of the game once the fun stops. Whereas should we live up to the song “Turning Japanese” the Bank of England will have chased the “equilibrium rate of unemployment” from if we are generous 6.5% to 2.5%.

House Prices

As you can imagine this subject came up and it was interesting to hear an explanation of UK house price rises omitting the role of the Bank of England. You might have thought that having gone to the effort of producing the bank subsidy called the Funding for Lending Scheme in the summer of 2012 and then produced research saying it had reduced mortgage rates by up to 2% that you might think it was a factor. This would be reinforced by the fact that it was in 2013 that house prices in the UK began to turn and head higher. There is also the Term Funding Scheme which began in August 2016 which amounted to some £127 billion of cheap liquidity ( 0.25% back then) for the banks which even the casual observer might think was associated with the record low mortgage interest-rates which were then seen.

This seems to be a new phase where the Bank of England sings along with Shaggy “It wasn’t me.” The absent-minded professor Ben Broadbent was on the case on the 23rd of July.

But it should be borne in mind when reading – as one often does – that QE has done little except boosted
prices of assets like shares and houses, or even led to a “boom” or “bubble” in those markets.

The research quoted was from colleagues of his who have voted for this QE and I am sure many of you would love to be judge and jury on your own actions! Later he tells us this about UK house prices.

But the latest figure is barely any higher than it was in the middle of the last decade.

So it is the same as the level that contributed to the crash? Not quite so good and whilst it may not be that much of an issue when your salary plus pension benefits total £356,000 many will note that real wages are 6% below their peak according to the official data.So house prices compared to wages are rather different.

Also there is this issue.

Broadly speaking I don’t think any of these things is true. It’s not new; it’s not exactly printing money; equity
and house prices are in real terms still comfortably below their pre-crisis levels; inequality hasn’t risen – nor,
according to the most detailed analysis available, did easier monetary policy have any net impact on it.

I guess he has never seen that bit in the film The Matrix where the Frenchman describes the role of cause and effect. Also on the subject of inequality I note that FT Alphaville has pointed out this.

In London and the South-East of England, this shift has been profound – real prices are nearly 30 per cent higher in London, and 10 per cent higher in the South-East and East.

Some house owners are indeed more equal than others it would appear. But this brings us back to Ian McCafferty who assured us on LBC that the ratio of house prices in London to the rest of the country “is now re-establishing itself at close to its more normal long-term level” . Is 30% higher the new “close to”?

Inevitably the issue of Brexit came up and sadly our intrepid policymaker seemed to struggle with both numbers and words in this regard. Here is the Reuters view on this.

“We are getting stories on (how) the numbers of French and German and other European bankers that are coming to London have fallen quite sharply over the last couple of years,” McCafferty said in a question-and-answer session on LBC radio.

You might think that he would know the numbers via contacting the banks rather than listening to “stories”. Also he had opened by saying there had been an “exodus” of such bankers which of course evokes the thought “movement of jah people” a la Bob Marley. The response from the host was that the number of bankers in the City had risen which then got the reply that the inflow had slowed which again is somewhat different to the initial claim. As this is an issue that is both polarised and political an independent ( his words not mine) should be ultra careful in this area rather than giving us vague rhetoric which falls apart at any challenge.

Oh and before we move on from housing there was this bit.

a number of those who are renting particularly those who work in the City.

Was he thinking of Governor Carney who of course got a £250,000 annual rent allowance?

Comment

There is much that is familiar here as we note that the Bank of England is looking to re-write history in its favour. There are two initial problems with this and the first is the moral hazard in you and your colleagues judging your own actions. On this road Napoleon could have written a counterfactual account of how his retreat from Moscow was a masterly example of the genre. Also there are clear contradictions in the story of which two are clear. The rise in asset prices seems able to boost the economy on the one hand but to have had no impact on inequality on the other. London house prices can have soared and become completely unaffordable in central London to all but the wealthiest and yet are close to normal long-term trends.

Only last week we were guided towards three interest-rate rises but now there seems only to be two.

Britain is “now at full employment” and so can expect “a couple more small interest rate rises” in the next two to three years to stop the economy from overheating, according to Bank of England policymaker Ian McCafferty. ( Daily Telegraph which failed to spot the full employment issue)

Maybe it is because they are only raising them so they can later cut them.

Higher interest rates will also give the Bank room to cut them once more if the economy hits a troubled spell in the years ahead.

 

Will we always be second fiddle to the banks?

The situation regarding the banks is one that has dominated the credit crunch era as we started with some spectacular failures combined with spectacular bailouts. Yet even a decade or so later we are still in a spider’s web that if we look at say Deutsche Bank or many of the Italian banks still looks like a trap. Economic life has been twisted to suit the banks such that these days a new Coolio would be likely to replace gangsta with bankster.

Keep spending most our lives, living in the gangsta’s paradise
Keep spending most our lives, living in the gangsta’s paradise

Power and the money, money and the power
Minute after minute, hour after hour

Although upon reflection with all the financial crime that the banks have intermediated perhaps he was right all along with Gangsta. This morning has brought more news on this front as we note this from Sky News about HSBC.

HSBC has agreed to pay $765m (£588m) to the US Department of Justice (DoJ) to settle a probe into the sale of mortgage-backed securities in the run-up to the financial crisis.

It is the latest bank to settle claims of mis-selling toxic debt before the financial crisis.

HSBC has paid a lot less than the  Royal Bank of Scotlandwhich agreed to pay $4.9bn in May and Barclays’ $2bn settlement with the DoJ in March.

This is just one example of the many criminal episodes emanating from the banks and if we stay with HSBC there was also this reported by The New Yorker.

 In 2012, a U.S. Senate investigation concluded that H.S.B.C. had worked with rogue regimes, terrorist financiers, and narco-traffickers. The bank eventually acknowledged having laundered more than eight hundred million dollars in drug proceeds for Mexican and Colombian cartels. Carl Levin, of Michigan, who chaired the Senate investigation, said that H.S.B.C. had a “pervasively polluted” culture that placed profit ahead of due diligence. In December, 2012, H.S.B.C. avoided criminal charges by agreeing to pay a $1.9-billion penalty.

The tale of what happened next is also familiar.

The company’s C.E.O., Stuart Gulliver, said that he was “profoundly sorry” for the bank’s transgressions. No executives faced penalties.

Yet in spite of all the evidence of tax evasion and money laundering in the banking sector the establishment bring forwards people like Kenneth Rogoff to try to deflect the blame elsewhere. First blame cash.

Of course, as I note in my recent book on past, present, and future currencies, governments that issue large-denomination bills also risk aiding tax evasion and crime. ( The Guardian )

Then should anything look like being some sort of competition raise fears about it too.

But it is an entirely different matter for governments to allow large-scale anonymous payments, which would make it extremely difficult to collect taxes or counter criminal activity.

Does he mean like the banks do?

Competition seems to get blocked

This morning has seen this reported by the Financial Times.

Britain’s peer-to-peer lending industry fears being stripped of one of its key advantages after the UK regulator proposed to block the access of many retail investors, alarming some senior executives in the nascent sector. “This is a moment,” said Rhydian Lewis, chief executive of RateSetter, one of the UK’s biggest peer-to-peer lending platforms. “They are looking to restrict this new industry and it is wrong. This is how things get stymied.”

Still in some ways it is a relief to see the Financial Conduct Authority or FCA actually have some powers as after all it was only last week they were telling us they were short of them.

Given the serious concerns that were identified in the independent review it was only right that we launched a comprehensive and forensic investigation to see if there was any action that could be taken against senior management or RBS. It is important to recognise that the business of GRG was largely unregulated and the FCA’s powers to take action in such circumstances, even where the mistreatment of customers has been identified and accepted, are very limited.

It is important to recall that this was a very serious business involving miss selling and then quite a cover up which the ordinary person would regard as at the upper end of serious crime. Businesses were heavily affected and some were forced into bankruptcy. Yet apparently there were no powers to do anything about what is one of the largest financial scandals of this era in the UK. It is hard not to mull on the fact that a few years ago the FCA was able to ban someone for life from working in the City of London because of evading rail fares.

However if you are a competitor to the banking sector you find that inquiries and regulation do apply to you. However what was the selling of derivative style products to small businesses somehow escapes the net.

It is not the banks fault

A very familiar theme has been played out since the Bank of England announced a rise in UK interest-rates at midday on Thursday. The reality is that many mortgage rate rises were announced immediately but as social media was quick to point out there was something of a shortage of increases in savings rates. Here is one way this was reported by the BBC over the weekend.

Millions of people could get a better return on savings by switching deals rather than waiting for banks to increase rates, experts say.

A huge number of savers leave money languishing in old accounts with poor rates of interest, often with the same provider as their current account.

The City regulator says they are missing out on up to £480m in interest.

So it’s our own fault and we need to sharpen up! As us amateurs limber up the professionals seem to be playing a sort of get out of jail free card that in spite of being well-thumbed still works.

Following the previous Bank rate rise in March, interest paid on half of all savings accounts failed to rise at all. Of those that did, the average rise did not match the Bank of England’s increase.Since Thursday’s rise there has been very little movement in rates,………..

Oh and March seems to be the new November at least at the BBC.

We also got a hint as to why the environment might be getting tougher for peer-to-peer lenders.

Bank of England governor Mark Carney suggests new entrants are increasing competition, creating better deals.

Comment

There is quite a bit to consider here as we look around UK banking. Looking at RBS there is the problem that the UK is invested at much higher levels. The 251 pence of this morning is around half the level that the UK government paid back in the day. Perhaps that explains at least some of the lack of enthusiasm for prosecuting it for past misdemeanours. Especially as the sale of 7.7% of its shares back in June illustrated a wish to get it off the books of the UK public-sector which still holds around 62%.

I note over the weekend the social media output of HSBC finds itself under fire reminding us of an ongoing issue..

Planning your next trip? Get cash before you go, to make the most of your holiday time.

The response is from Paul Lewis who presents Radio 4’s MoneyBox.

Dreadful advice. (a) HSBC rates not great (b) using a HSBC card abroad is subject to a hefty surcharge but using a Halifax Clarity card is not. This is why never go to a bank for advice it’ll only give you sales.

The old sales/advice issue rears its ugly head again as we note that the advice will of course be rather good for the profits of HSBC.

Moving onto the FCA and the Bank of England it is hard to see a clearer case of regulatory capture or as Juvenal put it so aptly back in the day.

Quis custodiet ipsos custodes?

Or who regulates the regulators?

 

 

The Mark Carney Show has misfired again

Yesterday was something of an epoch-making day for the UK but it also turned into a rather odd one. Also this morning has produced another piece of evidence for my argument that we finally got a rise in official interest-rates above the emergency 0.5% level because the Bank of England finally thought the banks have recovered enough to take it. From the Financial Times.

Royal Bank of Scotland will pay its first dividend since it was bailed out during the financial crisis, marking a major milestone on the bank’s road to recovery and paving the way for a further reduction of the government’s 62.4 per cent stake. The bank will pay an interim dividend of 2p per share after it confirms a final agreement on a recent fine with the US Department of Justice.

So even RBS has made some progress although it remains attracted to disasters like iron filings to a magnet as this seems a clear hint that it managed to be long Italian bonds into the heavy falls.

 RBS blamed “turbulence in European bond markets” for a 20 per cent drop in income at Natwest Markets.

As an aside the Italian bond market is being hit again today with the ten-year yield pushing over 3%.

Returning to the UK we also saw a 9-0 vote for a Bank Rate rise as I predicted in my podcast. This was based on my long-running theme that they are a bunch of “Carney’s Cronies” as five others suddenly changed their mind at the same moment as him, making the most popular phrase “I agree with Mark”. As some are on larger salaries added to by generous pension schemes we could make savings here.

A Space Oddity

This was provided by the currency markets which initially saw the UK Pound £ rally but then it fell back and at the time of writing it has dipped just below US$1.30. The US Dollar has been strong but at 1.122 we have not gained any ground against the Euro either at 145 we lost ground against the Japanese Yen.Why?

At first Governor Carney backed up his interest-rate rise with talk of more as in the press conference he suggested that 3 rises over the next 3 years was his central aim. Of course his aim has hardly been true but this disappeared in something of a puff of smoke when he later pointed out that he could keep interest-rates the same or even cut them. This rather brain-dead moment was reinforced by pointing out that he had cut interest-rates after the EU leave vote. This left listeners and viewers thinking will he cut next March?

Then he told Sky News this.

Mark Carney tells me is prepared to cut interest rates back again depending on how Brexit negotiations go. ( Ed Conway)

This morning he has managed to end up discussing interest-rate cuts with Francine Lacqua of Bloomberg after a brief mention of further rises. Then he added to it with this.

Mark Carney threw himself back into the thick of the Brexit debate on Friday, saying the chance of the U.K. dropping out of the European Union without a deal is “uncomfortably high.”

He also spoke to the Today programme on Radio Four which of course has its own audience troubles and here is the take away of Tom Newton Dunn of The Sun,

Blimey. Carney reveals the BoE recently ran a Brexit no deal exercise that saw property prices plummet by a third, interest rates go up to 4%, unemployment up to 9%, and a full-blown recession.

You can see from that why rather than a rally the UK Pound £ has struggled rather than rallied.  Due to his strong personal views Governor Carney keeps finding himself enmeshed in the Brexit debate which given his views on the subject will always head towards talk of interest-rate cuts. He is of course entitled to his personal views but in his professional life he keeps tripping over his own feet as just after you have raised interest-rates this is not the time for it. He could simply have said that like everyone else he is waiting for developments and will respond if necessary when events change.

Oh and we have heard this sort of thing from Governor Carney before. How did it work out last time?

interest rates go up to 4%

 

Today’s News

This has added to the theme I posited yesterday about the interest-rate increase which can be put most simply as why now?

The latest survey marked two years of sustained
new business growth across the service sector
economy. However, the rate of expansion eased
since June and was softer than seen on average
over this period. ( Markit PMI )

This followed a solid manufacturing report and a strong construction one but of course the services sector is by far the largest. This added to the report from the Euro area.

If the headline index continues to track at its current
level, quarterly GDP growth over the third quarter as
a whole would be little-changed from the softer-than expected expansion of 0.3% signalled by official
Eurostat data for quarter two.

Whilst these surveys are by no mean perfect guides there does seem to be something going on here and as I pointed out yesterday it is consistent with the weaker trajectory for money supply growth.

The UK Pound £

This did get a mention in the Minutes.

The sterling effective exchange rate had depreciated slightly since the Committee’s previous meeting and was down 2.5% relative to the 15-day average incorporated in the May Report.

This is awkward on two fronts. Firstly the fall was at least partly caused by the way Governor Carney and his colleagues clearly hinted at an interest-rate rise back then but then got cold feet in the manner of an unreliable boyfriend. Next comes the realisation that all the furore over a 0.25% interest-rate rise mostly ignores the fact that monetary conditions have eased as the currency fall is equivalent to a ~0.6% cut.

R-Star

This appeared having been newly minted in the Bank of England Ivory Tower. Or at least newly minted in £ terms as the San Francisco Fed put it like this last year.

The “natural” rate of interest, or r-star (r*), is the inflation-adjusted, short-term interest rate that is consistent
with full use of economic resources and steady inflation near the Fed’s target level.

If anyone has a perfect definition of “full use of economic resources” then please send it to every Ivory Tower you can find as they need one. Actually the Bank of England has by its actions suggested it is near to here which is rather awkward when they want to claim it is somewhere above 2%. Actually I see no reason why there is only one and in fact it seems likely to be very unstable but in many ways David Goodman of Bloomberg has nailed it.

They don’t know their r* from their elbow

Comment

This is all something of a dog’s dinner and I mean that in the poetic sense because in reality dog’s in my family  always seem to be fed pretty well. We have monetary policy being delivered by someone who looks as though he does not really believe in it. Even the traditional support from ex Bank of England staff seems to be half-hearted this time around and remember that group usually behave as if The Stepford Wives is not only their favourite film but a role-model.

If this is the best that Mark Carney can do then the extension of his term of tenure by Chancellor Hammond can be summed up by Men At Work.

It’s a mistake, it’s a mistake
It’s a mistake, it’s a mistake

 

 

 

The Bank of England is in a mess of its own making

Today looks as if it may be something of an epoch-making day for the UK as there is finally a decent chance that the 0.5% emergency Bank Rate will be consigned into history. Actually one way or another the decision has already been made as the Monetary Policy Committee voted last night. This was a rather unwise change made by Governor Carney as it raises the risk of leaks or what is called the early wire as the official announcement is not made until midday. As you can see from the chart below the BBC seems to think that the decision is a done deal or knows it is ( h/t @Old_Grumpy_Dave ).

This provides us scope for a little reflection as any move hardly fulfils this from back in June 2014.

This has implications for the timing, pace and degree of Bank Rate increases.
There’s already great speculation about the exact timing of the first rate hike and this decision is becoming
more balanced.
It could happen sooner than markets currently expect.

This was taken at the time as a promise and markets responded accordingly as interest-rate futures surged and the UK Pound £ rallied. From time to time people challenge me on this and say it was not a promise. What that misses is that central bankers speak in a coded language and in that language  this was a clear “Tally Ho”. Of course the “sooner than markets currently expect” never happened and whilst you may or may not have sympathy for professional investors and traders it was also true that ordinary people and businesses switched to fixed-rate borrowing in response to this. The reality was that the Bank of England via its credit easing policies and then Bank Rate cut of August 2016 pushed mortgage and borrowing rates lower affecting them adversely. Such has been the record of Forward Guidance.

What about now?

There was something else in that speech which was revealing as a sentence or two later we were told this.

The ultimate decision will be data-driven

Okay so let us take the advice of Kylie and step back in time. If we do so we see that the UK economy was on a bit of a tear which of course was another reason for those who took Governor Carney at his word. In terms of GDP growth the UK economy had gone 0.6%,0.5%,0.9% and 0.5% in 2013 which was then followed by 0.9% in the first quarter of 2014. It did the same in the second quarter which he would not have known exactly but he should have known things were going well.

Let us do the same comparison for now and look at 2017 where GDP growth went 0.3%,0.2%,0.5% and 0.4% followed by 0.1% in the first quarter of this year. If you were “data driven” which sequence would have you pressing the interest-rate trigger? I think it would be a landslide victory. The MPC may not have known these exact numbers due to revisions but a 0.1% here or there changes little in the broad sweep of things.

Some might respond with the pint that he is supposed to achieve an inflation target of 2% per annum. That is true but that has not bothered the MPC much in the credit crunch era as we have just been through a phase of above target inflation which of course they not only cut Bank Rate into but promised a further cut before even they came to the realisation that their Forward Guidance had been very wrong. Also before Governor Carney took office the MPC turned a blind eye to inflation going above 5%. Whereas post the EU leave vote they rushed to ease policy in something of a panic in response to expectations of a weaker economy.

The Speed Limit

The Bank of England Ivory Tower has had a very poor credit crunch. It has clung to outdated theories rather than respected the evidence. Perhaps the most woeful effort has been around the output gap which if you recall led to it highlighting an unemployment rate of 7% which the economy blasted through ( which you might consider was yet another case for an interest-rate rise in 2014). It has clung to equilibrium unemployment rates of 6.5%,6% 5.5% and 4.5% which of course have all been by-passed by reality. Such outdated thinking has led it to all sorts of over optimism on wage growth. Yet is seems to have learned little as this illustrates.

We think our economy can only grow at a new, lower speed limit of around one-and-a-half per cent a year. We also currently think actual demand is growing close to this speed limit. This means demand can’t grow faster than at its current pace without causing prices to start rising too quickly.

This is the MPC rationale for a Bank Rate rise and the problem is that they simply do not know that. They keep trying to build theoretical scaffolding around the reality of the UK economy but seem to learn little from the way the scaffolding regularly collapses.After all we grew much faster in 2014.

The banks

As ever the precious will be at the forefront of the Bank of England’s mind. I cannot help thinking that having noted the apparent improvement shown below maybe the real reason for a change is that the banks can now take it. First Lloyds Banking Group.

Since taking over the reins in 2011, Horta-Osório has presided over a bank which has swung from an annual loss of £260mln to a profit of £3.5bn.  ( Hargreaves Landsdown).

Then Barclays.

Barclays reported pretax profit of 1.9 billion pounds ($2.49 billion) for the three months from April-June, up from 659 million pounds a year ago and higher than the 1.46 billion average of analysts’ estimates compiled by the bank. ( Reuters)

Comment

A Martian observing monetary policy in the UK might reasonably be rather confused by the course of events. He or she might wonder why now rather than in 2014? Furthermore they might wonder why a mere 0.25% change is being treated as such a big deal? After all it is only a small change and the impact of such a move on those with mortgages will be both lower and slower than in the past.

Nationwide: The vast majority of new mortgages have been extended on fixed interest rates. The share of outstanding mortgages on variable interest rates has fallen to its lowest level on record, at c.35% from a peak of 70% in 2001. ( h/t @moved_average )

So if they do move the impact will be lower than in the past which makes you wonder why they have vacillated so much and been so unreliable?

The MPC have got themselves on a road where all the indecision means that the timing is likely to be off. What I mean by that is that whilst I expect economic growth to pick-up from the first quarter this year will merely be an okay year and currently the threats seem to the downside in terms of trade for example. We do not yet know where the Trump trade tariffs will lead but we do know that the Euro area has seen economic growth fall such that the first half of 2018 was required to reach what so recently was the quarterly growth rate. Also the ongoing rhetoric of the Bank of England about Brexit prospects hardly makes a case for a Bank Rate rise now either as it would be impacting as we leave ( assuming we do leave next March).

The next issue is money supply growth which in 2018 so far has been weak and now (hopefully) has stabilised. That does not make much of a case for raising now and would lead to the MPC operating in the reverse way to monetary trends as it cut into strength in August 2016 and now would be raising into relative weakness.

So there you have it on what is an odd day all round. I think UK interest-rates should be higher but also think that timing matters and that a boat or two has sailed already without us on it. Accordingly my view would be to wait for the next one. For the reasons explained above whilst the MPC has managed to verbally box itself into a corner I still  think that there is a chance ( 1/3rd) of an unchanged vote today. It is always the same when logic points in a different direction to hints of direction.

There is also the issue of QE which rarely gets a mention. If we skip the embarrassment all round of the Corporate Bond purchases we could also have taken the chance to trim the QE package when money supply growth was strong. I remember making that case nearly five years ago in City-AM.

Me on Core Finance TV

 

 

 

State financing of deposits would simply push UK house prices even higher

Yesterday saw a development we have been expecting for a while now. After all the weaker outlook for UK house prices with London seeing house price falls and the country as a whole seeing slower house prices growth was always going to unsettle an establishment that wants them higher. The trouble is of course that after all the credit easing from the Bank of England and the “Help” from the government there was a shortage of extra things which could be done. Well on Sunday the Housing Finance Institute and Radian shouted “Hold my beer”

The paper is instead calling for more of the £44 billion housing budget to be prioritised in favour of helping young people get on the housing ladder and in delivering a larger, more flexible social rented sector.

Okay how? The emphasis is mine.

The Government should significantly extend home ownership support schemes at the end of the current Help-To-Buy programme in 2021. There are a range of different schemes that could be implemented from providing direct deposits, to tax breaks, to mortgage  finance guarantees. These should be fully considered by the national housing delivery commission and set out in the national housing delivery plan.

That is a pretty comprehensive list of the sort even the Bank of Japan might be proud of. So more “Help” with the unwritten implication that it will in fact be permanent under such a policy operation. Also the return of tax breaks which we spent quite some years removing ( as they were a distortion on the market) followed by mortgage finance guarantees. It is only a short step from the latter to getting your mortgage from a state bank although of course the Bank of England would much prefer even more aid being funnelled to the “precious” banking sector. Indeed the banks would be delighted to see this.

A direct loan by government of up to 10%
per property could double the number of
people that can be helped.

Of course there was an ersatz version of this in the run-up to the credit crunch as banks used personal loans and the like as a way of funding deposits. Of course that was not supposed to happen and this new plan would take us into a new era of 100% mortgages. The next issue comes from wondering how would this be repaid? On this road we discover a can of worms or two. Again the emphasis is mine.

A home deposit loan could be recovered through the tax
system from deductions and could allow a
difference between repayment trigger dates
and amounts for higher and lower paid
salaries, and/or deferring final repayment
to the sale of the property.

The initial suggestion looks alone the lines of the student loan system which is not entirely reassuring as we note that many such loans may never be repaid. If we now look at the highlighted suggestion then the can is potentially being kicked a long way into the future. This offers security on the asset but of course unless house prices rise yet again will leave the individual(s) concerned yet again lacking funds for house purchase unless they move somewhere smaller. Then again the plan is simply to kick the can into the future and hope for the best.

Why?

In essence this report has been driven by this.

Over the period from 2002 over 2.5 million
extra private rented households were
formed; more than the total number
of all extra households in that period.

This is the flip-side in the boom in the buy-to let sector as the houses bought will come onto the market to be rented out. Whilst I am no fan of the buy-to-let boom I am also sure that many and maybe much of the private-rented sector provides decent homes so I think we have a fair degree of overkill here. No doubt some are poor quality but the social sector is not perfect either and the boundaries can be blurred lines as the Grenfell fire disaster showed.

Anything else?

Well just in case converting deposits from savings to loan finance is not enough there is also this.

A housing allowance tax scheme
could be introduced where young home
owners’ mortgage interest can be deducted
from tax.

We used to have something like that called MIRAS ( Mortgage Interest Relief At Source ) which was scrapped some years back. The only difference is that the tax relief is for younger buyers and some of you may be pleased to note that at one part of the document 44 seems to be regarded as an age threshold!

Comment

If we step back for a moment and imagine a situation where the policies suggested above are implemented then the first consequence would be higher house prices. This of course would start the bandwagon rolling again as the new higher house prices would be even more unaffordable and thus the cry would yet again go up for more “Help”

My independence seems to vanish in the haze
(But) but every now and then (now and then) I feel so insecure (I know that I)
I know that I just need you like I never done before ( The Beatles)

It is a bit like putting your I-Pod or MP3 player on repeat and listening to the same old song again and again on this particular road to nowhere. These higher house prices will be on the back of the ones driven higher by the previous “Help (To Buy)” and the 0.5% Bank Rate and credit easing of the Bank of England.

On this particular road we then find that a new group needs help as if we change the rules to help millennials then it will be the post millennials who will face an even bigger problem at which point there may be nothing left apart from the government buying the house for them.

The house price move could be very quick. It would not be as fast as exchange rate movements ( for newer readers we have seen those predate expected moves by ~6 months) but if history is any guide will see house prices adjust by the change so say 10% within a year or two. At which point there is a windfall for those who sell their property paid for by new buyers and increasingly financed by the state. Unless you sell the property or raise more finance it is only a paper windfall so only small numbers have a real gain. The catch is that collectively we are back where we started as the younger house buyers face higher prices and will increasingly report that they are unaffordable yet again. That issue is driven by the gap between the house price rises and the official data on real wages as we try to do more with less.

average total pay (including bonuses) for employees in Great Britain was £489 per week before tax and other deductions from pay, £33 lower than the pre-downturn peak of £522 per week recorded for February 2008

Meanwhile I note that we have seen today the numbers for unsecured credit including student loans released this morning. The annual growth rate including them was 11.3% in the year to March whereas it was 8.6% without them. Any thoughts as to why they are usually left out?

 

Are we living beyond our means in the UK?

This morning has seen the UK Office for National Statistics enter the fray around whilst is something of a hardy perennial amongst economic questions.

UK households have seen their outgoings surpass their income for the first time in nearly 30 years, our data have shown.

I have to confess my first thought was are you sure about the 30 years? But let us suspend that particular critical facility for a moment and continue.

On average, each UK household spent or invested around £900 more than they received in income in 2017; amounting to almost £25 billion (or about one-fifth of the annual NHS budget in England).

Households’ outgoings last outstripped their income for a whole year in 1988, although the shortfall was much smaller at just £0.3 billion.

Even in the run-up to the financial crisis of 2008 and 2009 – when 100% (and more) mortgages were offered to home buyers without a deposit – the country did not reach a point where the average household was a net borrower1.

Significant factors here will be regular topics such as the higher inflation of 2017 raising expenditure and the continuing struggles of wages growth. Although the next point raised may result in a strongly worded letter from an angry Canadian in the heart of the City of London.

To fund this shortfall, households either have to borrow – at which point they could be living beyond their means – or dip into their savings.

And our data show they are borrowing more and saving less.

Households took out nearly £80 billion in loans last year, the most in a decade; but they deposited just £37 billion with UK banks, the least since 2011.

Why might borrowing be attractive? Oh yes.

We’re borrowing more and saving less partly because the interest rate – which dictates returns on money saved and the size of loan repayments – has been at or near a record low for the past decade.

The base rate set by the Bank of England is just 0.5%, compared with almost 15% in 1990, making financial conditions better for borrowers rather than savers.

That of course does not give the Bank of England enough credit as until November the Bank Rate was 0.25% and nearly for the whole year it was supplying liquidity to the banks via the £127 billion Term Funding Scheme. It had also back in August 2016 started other Sledgehammer measures such as £10 bililion of Corporate Bond purchases and £60 billion of UK Gilt ( QE) purchases. These moves led to a succession of record low mortgage rates which perhaps the ONS is not aware of but it has spotted a likely consequence.

Households’ investment reached a record high of £74 billion in 2017, most of which was spending on new homes and major home improvements.

This provokes two lines of thought. Let us start with my subject of Monday where we noted a case of someone buying a new kitchen presumably expecting his house would rise in value by more only to discover that it was not that simple. Next is the issue that something ordinarily regarded as a “good thing” investment seems not to be quite so clearly so here.

The nib on the fountain pen of our angry Canadian may fracture under the pressure as he notes that even being unreliable has contributed.

Recently, the Bank of England has been warning the country to expect interest rate rises. Expectations of an interest rate rise can affect saving and borrowing behaviour. Borrowing could rise in the short-term as households seek to take advantage of smaller repayments, while saving could be put off amid the prospect of higher returns in future.

At this point our angry Canadian will be torn between pointing out he saved 250,000 jobs and venting his spleen by calling in Chief Economist Andy Haldane and asking for a report on developments with his adviser Billy Bragg. Oh and when did over 4 years become “recently” please? As to the pen’s nib I would not be too worried as after all there is no shortage of gold to repair it with at the Bank of England.

There was something rather familiar to readers of my work although of course something confusing for those who believed the past Bank of England claims that there was no unsecured credit boom.

The stock of consumer credit – including credit cards, car finance plans and payday loans – has risen by nearly one-third in the last five years. Car finance is comfortably the fastest growing type of credit, with nearly 90% of new car purchases now funded this way.

I think actually car finance was the fastest growing type of credit is better as the slow down in sales will put a brake on things.

The amount of money owed in short-term loans has surpassed its pre-crisis level. These loans do not require any collateral (such as a house deposit) to be approved, but they’re expensive to pay back because they demand higher interest repayments.

Oh and here is an example from the BBC of an official body getting ready for an interest-rate move.

National Savings and Investments (NS&I) is cutting the interest rate it pays on its Direct Individual Savings Account (ISA), affecting nearly 400,000 savers.

From 24 September, NS&I will reduce the rate on its Direct ISA from 1.00% to 0.75%.

Ch-ch-changes

Can anybody think how our financial behaviour might have been influenced so that we have become more like Canada?

Meanwhile, the average household in Germany and France has always been able to cover their outgoings without turning to debt, partly because they’re historically bigger savers than the UK, Canada and the US.

For a long time, the average UK household was in a similar position to those in France and Germany. However, we’re now much closer to Canada and the US than our European neighbours.

Comment

As I noted this work appearing on social media I started to wonder if it would turn out to be like that Swiss cheese with the holes in it? There are elements of that because if you are looking at borrowing in this way I think you also need an idea of asset backing ( if any) and also a realisation that some of the numbers will not be known. For example I can see how we should know the amount of bank deposits in the UK but share investments especially abroad are far from clear.

If we look at the numbers there is an unsettling tone as I note that the report talks about a financial year and the numbers are for calendar years. But I know people like them so here we go. UK financial assets at the end of 2017 were £6.6 trillion and our angry Canadian might be mollified as he notes that it has grown from £5.2 trillion in the year he took up his post especially as he can then add to it the rise in house prices. By far the largest player is pension schemes at £3.8 billion with bank deposits next at £1.57 billion.Against that total debt is £1.8 trillion so looked at like that we are (trillions of) quids in.

Except of course the £3.8 billion is against a future liability which is missed out and we are often somewhere between poor and hopeless in measuring them. From Josephine Cumbo of the Financial Times.

The adoption of a higher discount rate by USS is in keeping with other private sector schemes. This year, Tesco sliced its DB deficit largely by increasing its discount rate from 2.5% to 2.9%.

In addition there is the issue of maybe people have borrowed because they think ( perhaps are) wealthier. Or at least some are as we are reminded that in the era of the 0.01% there is a clear case of what Pink Floyd described as “Us and Them”

Meanwhile as a cricket fan let me note that there seams to have been a late swing to Imran Khan in Pakistan.