What can we expect from the Bank of England in 2018?

Today we find out the results of the latest Bank of England policy meeting which seems set to be along the lines of Merry Christmas and see you in the new year. One area of possible change is to its status as the Old Lady  of Threadneedle Street a 200 year plus tradition. From City AM.

The Bank will use further consultations to remove “all gendered language” from rulebooks and forms used throughout the finance sector, a spokesperson said.

Perhaps it will divert attention from the problems keeping women in senior positions at the Bank as we have seen several cases of “woman overboard” in recent times some for incompetence ( a criteria that could be spread to my sex) but not so in the case of Kristin Forbes. There does seem to be an aversion to appointing British female economists as opposed to what might be called “internationalists” in the style of Governor Carney.

Moving onto interest-rates there is an area where the heat is indeed on at least in relative terms. From the US Federal Reserve last night.

In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 1-1/4 to 1‑1/2 percent. The stance of monetary policy remains accommodative

The crucial part is the last bit with its clear hint of more to come which was reinforced by Janet Yellen at the press conference. From the Wall Street Journal.

Even with today’s rate increase, she said the federal-funds rate remains somewhat below its neutral level. That neutral level is low but expected to rise and so more gradual rate hikes are likely going forward, she said.

The WSJ put the expectation like this.

At the same time, they expect inflation to hold steady, and they maintained their expectation of three interest-rate increases in 2018.

Actually if financial markets are any guide that may be it as the US Treasury Bond market looks as though it is looking for US short-term interest-rates rising to around 2%. For example the yield on the five-year Treasury Note is 2.14% and the ten-year is 2.38%.

But the underlying theme here is that the US is leaving the UK behind and if we look back in time we see that such a situation is unusual as we generally move if not in unison along the same path. What was particularly unusual was the August 2016 UK Bank Rate cut.

Inflation Targeting

What is especially unusual is that the Fed and the Bank of England are taking completely different views on inflation trends and indeed targeting. From the Fed.

 Inflation on a 12‑month basis is expected to remain somewhat below 2 percent in the near term but to stabilize around the Committee’s 2 percent objective over the medium term. Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely.

In spite of the fact that consumer inflation is below target they are raising interest-rates based on an expectation ( incorrect so far) that it will rise to their target and in truth because of the improved employment and economic growth situation. A bit of old fashioned taking away the punch bowl monetary policy if you like.

The Bank of England faces a different inflation scenario as we learnt on Tuesday. From Bloomberg.

The latest data mean Carney has to write to Chancellor of the Exchequer Philip Hammond explaining why inflation is more than 1 percentage point away from the official 2 percent target. The letter will be published alongside the BOE’s policy decision in February, rather than this week, as the Monetary Policy Committee has already started its meetings for its Dec. 14 announcement.

If you were a Martian who found a text book on monetary policy floating around you might reasonably expect the Bank of England to be in the middle of a series of interest-rates. Our gender neutral Martian would therefore be confused to note that as inflation expectations rose in the summer of 2016 it cut rather than raised Bank Rate. This was based on a different strategy highlighted by a Twitter exchange I had with former Bank of England policymaker David ( Danny) Blanchflower who assured me there was a “collapse in confidence”. To my point that in reality the economy carried on as before ( in fact the second part of 2016 was better than the first) he seemed to be claiming that the Bank Rate cut was both the fastest acting and most effective 0.25% interest-rate reduction in history. If only the previous 4% +  of Bank Rate cuts had been like that…….

 

Even Norway gets in on the act

For Norges bank earlier today.

On the whole, the changes in the outlook and the balance of risks imply a somewhat earlier increase in the key policy rate than projected in the September Report.

China is on the move as well as this from its central bank indicates.

On December 14, the People’s Bank of China launched the reverse repo and MLF operation rates slightly up 5 basis points.

I am slightly bemused that anyone thinks that a 0.05% change in official interest-rates will have any effect apart from imposing costs and signalling. Supposedly it is a response to the move from the US but it is some 0.2% short.

The UK economic situation

This continues to what we might call bumble along. In fact if the NIESR is any guide ( and it has been in good form) then we may see a nudge forwards.

Our monthly estimates of GDP suggest that output expanded by 0.5 per cent in the three months to November, similar to our estimate from last month.

The international outlook looks solid which should help too. This morning’s retail sales data suggested that the many reports of the demise of the UK consumer continue to be premature,

When compared with October 2017, the quantity bought in November 2017 increased by 1.1%, with household goods stores showing strong growth at 2.9%……..The year-on-year growth rate shows the quantity bought increased by 1.6%.

As ever care is needed especially as Black Friday was included in the November series but Cyber Monday was not. Although I note that there was yet another signal of the Bank of England’s inflation problem.

Total average store prices increased by 3.1% in November 2017 when compared with the same period last year, with price increases across all store types, in particular food stores had the largest price increase of 3.6% since September 2013.

Comment

The Bank of England finds itself in a similar position to the US Federal Reserve in one respect which is that it had two dissenters to its last interest-rate increase. The clear difference is that the Fed is in the middle of a series of rises whereas the Bank of England has so far not convinced on this front in spite of saying things like this. From the Daily Telegraph.

“We’ve said, given all the things we assume in our forecast, many of which will be misses – there are always unknown things and unpredictable things happening – but given our outlook currently, we anticipate we will need maybe a couple more rate rises, to get inflation back on track, while at the same time supporting the economy,” Ben Broadbent told the BBC’s Today programme.

I wonder if he even convinced himself. Also it is disappointing that we will not get the formal letter explaining the rise in inflation until February as it is not as if Governor Carney has been short of time.

So it seems we will only see action from the Bank of England next year if its hand is forced and on that basis I am pleased to see that Governor Carney plans to get about.

Me on Core Finance

http://www.corelondon.tv/inflation-employment-uk/

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Why does the Bank of England lack credibility these days?

As it is open season at the Bank of England in terms of media appearances and speeches even the absent-minded professor has been spotted. Actually these days he seems to be performing the role of Governor Carney’s messenger boy and as you can see below this was in evidence yesterday,

The effects of Brexit on inflation, and ultimately on the appropriate level of interest rates, are altogether more
uncertain and more complex. They’re certainly too complex to justify the simple assertion that Brexit necessarily implies low interest rates.

I am not sure what world Ben Broadbent lives in as of all the things Brexit might effect I would imagine low interest-rates was a long way down most people’s lists. Also as to the direction of travel well we were told before the referendum by Governor Carney that interest-rates were likely to rise should the vote be to leave.  Of course he then cut them!

But if we continue with what was supposed to be the theme of yesterday’s speech there was also this.

The MPC explained over a year ago that
there were “limits to the extent to which above-target inflation [could] be tolerated” and that those limits
depended on the degree of spare capacity in the economy. In March, eight months ago, it said in its
Monetary Policy Summary that, if demand growth remained resilient, “monetary policy may need to be
tightened sooner” than the market expected. Similar points were made in the intervening months.
Yet, even as inflation rose, and the rate of unemployment fell further, interest-rate markets continued to
under-weight the possibility that Bank Rate might actually go up this year.

This bit is significant because interest-rate markets are again saying “we don’t believe you” to the Bank of England. The clearest example of that is the two-year Gilt yield which at 0.48% is below the current Bank Rate let alone any possible increases. Even the five-year Gilt yield at 0.75% is only pricing in maybe one increase. Thus the message that further Bank Rate increases are on the cards has not convinced.

Mixed Messages

The problem with sending out an absent-minded professor to deliver a message is that they are likely to be, well, absent-minded!

I’m certainly not going to argue here that interest rates will inevitably rise as Brexit proceeds.

If we skip his apparent Brexit obsession that rather contradicts the message he was sent out to put over and later there was more.

However, my main point is that, given all the moving parts, even the marginal impact of EU withdrawal on the
appropriate level of UK interest rates is ambiguous

And more.

These pull in different directions: holding fixed the other two, weaker demand tends to
depress inflation and interest rates, declines in productivity and the exchange rate do the opposite. There
are feasible combinations of the three that might require looser policy, others that lead to tighter policy.

This is classic two handed economics as in one the one hand interest-rates might rise but on the other they might fall.

And more.

Predicting others’ predictions isn’t easy, and I don’t think the balance of risks to inflationary pressure, and
therefore future interest rates, is obvious.

The essential problem faced here is back to the credibility issue that Sir Jon Cunliffe was boasting about in his speech on Tuesday. You see markets have problems but are usually not stupid and they will see through this.

It won’t have escaped your attention that the MPC raised interest rates earlier this month. It did so, in part,
because of the referendum-related decline in sterling’s exchange rate. That has pushed up CPI inflation and
will continue to do for some time yet, as the rise in import costs is passed through to retail prices.

When the Bank of England raised Bank Rate the effective or trade-weighted index for the UK Pound £ was 78 but it had cut Bank Rate in August 2016 when it was 79! So if it raised Bank Rate in response to a one point fall why did it cut it in the face of the 9 point fall that has followed the EU leave vote? Best to leave our absent-minded professor in his land of confusion I think. The statement also ignores that fact that to defeat an inflationary push you need to get ahead of events not be some form of tail end charlie chasing them.

Back in August 2016 Ben Broadbent and his colleagues gambled and we lost.

The MPC eased policy in August 2016 not because of the referendum result but because of the steep fall in measures of business and consumer confidence that followed it.

So in terms of credibility I would say that in modern language they are in fact uncredible.

Retail Sales

These numbers remind us of why Ben Broadbent is so uncredible. You see after the EU Leave vote he decided to ignore signals that the Bank of England previously used and concentrate on business surveys. Markit reported this in July.

UK economy contracts at steepest pace since early-2009

Both they and Ben are probably desperately hoping that people will be absent minded about this as of course the UK economy in fact continued to grow. In particular we saw this happen towards the end of the year as we focus in on Retail Sales.

In October 2016, the quantity of goods bought (volume) in the retail industry was estimated to have increased by 7.4% compared with October 2015; all store types showed growth with the largest contribution coming from non-store retailing. This is the highest rate of growth since April 2002.

That is one of the biggest booms we have ever had and thank you ladies as it your enthusiasm for clothes and shoes shopping that helped give the numbers a push.

That perspective brings us to today’s numbers which reflected the boom last year.

The longer-term picture as shown by the year-on-year growth rate shows the quantity bought fell by 0.3% in comparison with a strong October 2016;

At this point a cursory glance might make you think that the numbers are badly and are in line with some of the surveys we have seen. Except if we look closer maybe not.

The underlying pattern in the retail industry in October 2017, as suggested by the three-month on three-month measure is one of growth, with the quantity bought increasing by 0.9%………The quantity bought in October 2017 increased by 0.3% compared with September 2017;

If you look at the series it was in fact September which was the weak month as was the opening of 2017 and October was a little better. Also we saw another possible confirmation of my argument that higher inflation leads to weaker volumes.

The main contribution to the overall year-on-year decrease of 0.3% in the quantity bought in retail sales came from food stores, providing a negative contribution of 0.9 percentage points;

The inflation data on Tuesday signalled higher food inflation ( 4.2%) and it may well be more than a coincidence that we are seeing lower volumes. Rather curiously the strong point in October was this.

in particular second-hand goods stores (charity shops, auction houses, antiques and fine art dealers) provided the largest contribution to this growth.

Comment

A theme of my work over the past year and a half or so is to be sanguine about the impact of an EU Leave vote. Yes there are impacts due to higher inflation reducing real wage growth but the economy has in fact grown fairly steadily albeit at no great pace. Regular readers will recall that I pointed out that UK economic history showed that a lower Pound £ has a powerful impact. Ironically that is only partly shown by the trade figures where you might expect to see it first but we do seem to have seen it elsewhere. As to the statistics we receive well they can be solved by a stroke of the pen apparently.

Having carried out an assessment on the additional information, ONS has determined that if the
proposed regulations come into force as proposed then local authority and central government influence
in combination with the existence of nomination agreements would not constitute public sector control,
and English PRPs would be reclassified as Private Non-Financial Corporations (S.11002).

About £60 billion I think and it looks a little like a merry-go-round as they put the national debt up and then change their minds.

Meanwhile I expect the speeches from the Bank of England to get ever more complex so that they paper over the issue that they have got the basic wrong. Let me add one more problem to the list by pointing out something it tries to look away from, here are some wealth effects from what is a fair bit of the QE era.

 

 

How the Bank of England eased monetary policy yesterday

Yesterday something happened which is rather rare a bit like finding a native red squirrel in the UK. What took place was that part of the Forward Guidance of the Bank of England came true.

At its meeting ending on 1 November 2017, the
MPC voted by a majority of 7-2 to increase Bank Rate by 0.25 percentage points, to 0.5%.

Not really the “sooner than markets expect” of June 2014 was it? Also of course it was only taking Bank Rate back to the 0.5% of them. Or as it was rather amusingly put in the comments section yesterday the Bank of England moved from a “panic” level of interest-rates to a mere “emergency” one!

Problems

It was not that two Monetary Policy Committee members voted against the rise that was a problem because as I pointed out on Wednesday they had signalled that. It was instead this.

All members agree that any future increases in Bank Rate would be expected to be at a gradual pace and to a limited extent.

In itself it is fairly standard central bank speak but what was missing was an additional bit saying something along the lines of “interest-rates may rise more than markets expect”. Actually it would have been an easy and cheap thing to say as expectations were so low. This immediately unsettled markets as everyone waited the 30 minutes until the Inflation Report press conference began. Then Governor Carney dropped this bombshell.

Current market yields, which are used to condition our forecasts, incorporate two further 25 basis point increases over the next three years. That gently rising path is consistent with inflation falling back over the next year and approaching the target by the end of the forecast
period.

This was a disappointment to those who had expected a series of interest-rate rises along the lines of those from the US Federal Reserve. Some may have wondered how a man who plans to depart in June 2019 could be making promises out to 2021! Was this in reality “one and done”?

Added to this was the concentration on Brexit.

Brexit remains the biggest determinant of that outlook. The decision to leave the European Union is already having a noticeable impact.

The latter sentence is true with respect to inflation for example but like when he incorrectly predicted a possible recession should the UK vote leave the Governor seems unable to split his own personal views from his professional  role. This gets particularly uncomfortable here.

And Brexit-related constraints on investment and labour supply appear to be reinforcing the marked slowdown that has been evident in recent years in the rate at which the economy can grow without generating inflationary pressures.

The new “speed limit” for the UK economy of 1.5% per annum GDP growth comes from exactly the same Ivory Tower which told us a 7% unemployment rate was significant which speaks for itself! Or that wage increases are just around the corner every year. In a way the fact that the equilibrium unemployment rate is now 4.5% shows how wrong they have been.

The UK Pound

The exchange-rate of the UK Pound £ had been slipping before the announcement. As to whether this was an “early wire” from the long delay between the vote and the announcement or just profit-taking is hard to say. What we can say is that the Pound £ dropped like a stone immediately after the announcement to just over US $1.31 and towards 1.12 versus the Euro. Later after receiving further confirmation from the Inflation Report press conference it fell to below US $1.306 and to below Euro 1.12.

If we switch to the trade-weighted or effective index we see that it fell from the previous days fixing of 77.76 to 76.44. If we use the old Bank of England rule of thumb that is equivalent to a Bank Rate reduction of around 1/3 rd of a percent.

UK Gilt yields

You might think that these would rise in response to a Bank Rate change but this turned out not to be so. The cause was the same as the falling Pound £ which was that markets had begun to price in a series of increases and were now retreating from that. Let us start with the benchmark ten-year yield which fell from 1.36% to 1.26% and is now 1.24%. Next we need to look at the five-year yield because that is often a signal for fixed-rate mortgages, It fell from 0.83% to 0.71% on the news.

The latter development raised a smile as I wondered if someone might cut their fixed-rate mortgages?! This would be awkward for a media presenting mortgage holders as losers. This applies to those on variable rates but for newer mortgages the clear trend has been towards fixed-rates.

But again the conclusion is that post the decision the fall in UK Gilt yields eased monetary policy which is especially curious when you note how low they were in the first place.

This morning

Deputy Governor Broadbent was sent out on the Today programme on BBC Radio 4 to try to undo some of the damage.

BoE’s Broadbent: Anticipate We May Need A Couple More Rate Rises To Get Inflation Back On Track – BBC Radio 4 ( h/t @LiveSquawk )

The trouble is that if you send out someone who not only looks like but behaves like an absent-minded professor the message can get confused. From Reuters.

The Bank of England’s signal that it may need to raise interest rates two more times to get inflation back toward the central bank’s target is not a promise, Bank of England Deputy Governor Ben Broadbent said on Friday.

Then matters deteriorated further as “absent-minded” Ben claimed that Governor Carney had not said that a Brexit vote could lead to a recession before the vote and was corrected by the presenter Mishal Husain. I do not want to personalise on Ben but as there have been loads of issues to say the least about Deputy Governors in the recent era from misrepresentations to incompetence what can one reasonably expect for a remuneration package of around £360,000 per annum these days?

Here is a thought for the Bank of England to help it with its “woman overboard” problems. The questioning of Mishal Husain was intelligent and she seemed to be aware of economic developments which puts her ahead of many who have been appointed……

Comment

There is a lot to consider here as we see that the Bank Rate rise fitted oddly at best with the downbeat pessimism of Governor Carney and the Bank of England. Actually in many ways  the pessimism fitted oddly with the previous stated claim that a Bank Rate rise was justified because the economy had shown signs of improvement. On that road the monetary score is +0.25% for the Bank Rate rise then -0.33% for the currency impact and an extra minus bit for the lower Gilt yields leaving us on the day with easier monetary policy than when the day began.

Today saw another problem for the Bank of England as some good news for the UK economy emerged from the Markit ( PMI) business surveys.

The data point to the economy growing at a
quarterly rate of 0.5%, representing an
encouragingly solid start to the fourth quarter.

How about simply saying the economy has shown strengthening signs recently and inflation is above target so we raised interest-rates? Then you keep mostly quiet about your personal views on the EU leave vote on whichever side they take and avoid predictions about future interest-rates like the Bank of England used to do. Indeed if you have an Ivory Tower which has been incredibly error prone you would tell it to keep its latest view in what in modern terms would be called beta until it has some backing.

Oh and as to the claimed evidence that private-sector wages are picking up well the official August data at 2.4% does not say that and here is a song from Earth Wind and Fire which covers the Bank of England’s record in this area.

Take a ride in the sky
On our ship, fantasize
All your dreams will come true right away

What will the Bank of England be considering today?

Later on today the Bank of England will be considering and voting on something it has not done for more than a decade. Let me take you back to July 2007 when it told us this.

The Governor invited the Committee to vote on the proposition that Bank Rate should be increased by 25 basis points to 5.75%. Six members of the Committee (the Governor, John Gieve, Kate Barker, Tim Besley, Andrew Sentance and Paul Tucker) voted in favour of the proposition. Rachel Lomax, Charles Bean and David Blanchflower voted against, preferring to maintain Bank Rate at 5.5%.

The idea of interest-rates being at 5.5% let alone 5.75% seems from a universe “far,far away” doesn’t it? Also if the public pronouncements of the current Monetary Policy Committee or MPC are any guide there is likely to be a split vote this time around. It is not that MPC members have not individually voted for rises as for example Ian McCafferty has had two phases of it before the current one it is the lack of company they have received. Perhaps most telling in the recent era is that the current Governor Mark Carney has yet to cast a single vote for a Bank Rate rise in spite of 2 clear periods before now ( in 2014 and 2015/16) when he has clearly hinted at delivering one.

Some are completely convinced as this from Reuters suggests.

Britain’s National Institute of Economic and Social Research said it expects the Bank of England to start a sustained rate-tightening cycle on Thursday, which will lead to interest rates peaking at 2 percent in 2021.

Inflation

There is something of a myth that the Bank of England simply targets 2% per annum inflation when this days it is not that simple. There has been some meddling in its remit particularly by the previous Chancellor George Osborne such that it now considers it to be this.

The Bank of England’s Monetary Policy Committee (MPC) sets monetary policy to meet the 2% inflation target,
and in a way that helps to sustain growth and employment.

The “and” is misleading as the two objectives can be contradictory. That was seen as recently as August 2016 when the Bank of England cut Bank Rate to 0.25% and undertook its Sledgehammer of QE. This was supposed to boost the economy but anticipation of it ( as it was well leaked) meant that the UK Pound fell further than otherwise raising imported inflation. So the current inflation issue where the official measure is at 3% is awkward to say the least because it is a consequence of past Bank of England action. A nudge higher to 3.1% would be even more awkward as Governor Carney would have to write a letter to the Chancellor explaining how he was going to reduce something he had helped push up!

Also current inflation is not really something the MPC can do much about now as it takes time for any policy move to have an impact and this usually takes between 18 months and two years to fully work. If we look ahead then the MPC itself thinks that domestically generated inflation is not a big problem or at least it did in August.

Wage Inflation

This deserves a heading of its own as it comes part of domestic inflation ( via labour costs) but is also a target variable itself. Back in August the Bank of England picked out wage inflation as something it expected to rise. However like all its other Forward Guidance on this issue it has been wrong so far as wages have progressed on a pretty similar trajectory and not as it suggested.

We have a relatively tight job market and we do think that wages are going to begin to firm. We’re seeing, and one doesn’t want to over-interpret, but certainly on a survey
basis and some very recent data, some elements of that firming.

Imported Inflation

If we look for the level of the Pound £ last August we see that it has not changed much against the US Dollar although care is needed as it fell after the Bank of England meeting as some felt it had hinted at an interest-rate rise then. One different factor is the price of crude oil as depending on its exact level when you read this it is a bit over nine US Dollars higher than then. So a little push higher in the inflationary chain although the effect of the 2016 fall in the Pound will begin to wash out in a few months.

So the two main issues are whether you think the price of oil can go much higher? Party time for the producers and the shale oil wildcatters if it can. Also what you think about the UK Pound’s prospects after its 2016 drop?

Employment

This is another of the target areas these days but whilst it has been a happy record for UK workers it has been a woeful one for the Bank of England in the era of Forward Guidance. We can argue now about how much importance it put on an unemployment rate of 7% back in 2013. But what is not in dispute is the fact that it was rescinded at express pace and the “threshold” has gone 6.5%,6%,5.5% and now 4.5%. With the unemployment rate now 4.3% with record employment and no sign of wage pressure the last number may soon be due a demotion as well giving the MPC a rather full recycling bin.

Growth

There are two ways of looking at this. The first is to say that the current expansion is getting rather mature. Or as the Office for National Statistics puts it.

Following growth of 0.4% in Quarter 3 2017, GDP has grown for 19 consecutive quarters.

So you could say that it is past time to ease the monetary stimulus although of course that would have people looking over your shoulder to August 2016! The other way of looking at it is more awkward as having cut Bank Rate when GDP growth was of the order of 0.6/7% a rise now would be doing so when it is 0.3/4%. Ooops!

Comment

If we look at this as the Bank of England is likely too then there are various issues for it. We see that it can do very little about the current inflationary episode and that its claims of seeing higher wage growth after so many mistakes may bring laughter even at what is often a supine media at the press conference ( after all they want to be able to get in an early question….). It will be doing so at a level of economic growth that has often made it cut not raise interest-rates. If we look at the unsecured credit growth issue that I analysed on Monday the problem is that it has been at the same growth rate for a while and the Bank of England lit the blue touch-paper for it in August 2016,

Thus if it does raise Bank Rate it is likely to involve a downbeat assessment of productivity and the supply side of the UK economy. This will then allow it to continue its post EU leave vote pessimism and attempt to dodge the obvious timing problem. The catch is that its theoretical efforts in this area have had about as much success as Chelsea’s defence last night.

As for my views the first bit is easy yes Bank Rate should be 0.5% as part of an effort to take it higher, the catch is in the timing as this inflationary episode is past us in monetary policy terms. But as we can see from the current level of the UK Pound ( US $1.33 and Euro 1.14) it can help going forwards. The market is settled it will happen but I expect some to vote against as intriguingly two inside members ( Cunliffe and Ramsden) have hinted they will and of course Silvana Tenreyro was reported as saying this by Reuters only last month.

New Bank of England rate-setter Silvana Tenreyro said she was not ready to vote to raise the Bank’s record low interest rates in November although she might do so in the coming months if inflation pressure builds in Britain’s labour market.

Could the “unreliable boyfriend” emerge again or will it be a case of one and done like in Canada under Governor Carney? ( correction as Andrew Baldwin points out in the comments rates were raised to 1%).

Oh and as a reminder take care from late this afternoon as that is when the MPC actually vote. The delay between this and the announcement which was introduced by Governor Carney is something that can only go wrong ( i.e leak) in my opinion.

 

 

 

 

 

What is happening in the UK housing market?

There are always a multitude of factors to consider here but one has changed if the “unreliable boyfriend” can finally go steady. That is the Open Mouth Operations from various members of the Bank of England about a Bank Rate ( official interest-rate) increase in November presumably to 0.5%. This would be the first time since the summer of 2013 and the introduction of the Funding for Lending Scheme that there has been upwards pressure on mortgage rates. Indeed the FLS was designed to drive them lower ( albeit being under the smokescreen of improving small business lending) and if we throw in the more recent Term Funding Scheme the band has continued to play to the same beat. From Bank of England data for July.

Effective rates on new individual mortgages has decreased by 10bps from 2.05% to 1.95%, this is the first time the series has fallen below 2%;

The current table only takes us back to August 2015 but it does confirm the theme as back then the rate was 2.57%. Noticeable in the data is the way that fixed-rate mortgages (1.99%) have become closer to variable-rate ones (1.73%) and if we look at the combination it looks as though fixed-rate mortgages have got more popular. That seems sensible to me especially if you are looking beyond the term of office of the “unreliable boyfriend.” From the Resolution Foundation.

The vast majority (88%) of new loans are taken with fixed interest rates, meaning 57% of the stock of loans are now fixed.

Has Forward Guidance had an impact?

That depends where you look but so far the Yorkshire Building Society at least seems rather unimpressed.

0.89% variable (BoE Base rate + -3.85%) variable (YBS Standard Variable Rate -3.85%) fixed until 30/11/2019

There is a large fee ( £1495) and a requirement for 35% of equity but even so this is the lowest mortgage-rate they have even offered. You can get a fixed rate mortgage for the same term for 0.99% with the same fee if you have 40% of equity.

So we see that so far there has not been much of an impact on the Yorkshire Building Society! Perhaps they had a tranche of funding which has not yet run out, or perhaps it has been so long since interest-rates last rose that they have forgotten what happens next? If we move to market interest-rates Governor Carney will be pleased to see that they have taken more notice of him as the 2 year Gilt yield was as low as 0.15% on the 7th of this month and is now 0.45%. The 5 year Gilt yield rose from 0.39% on the 7th to 0.77% now.

Thus there should be upwards pressure on future mortgage rates albeit of course that funding is still available to banks from the Term Funding Scheme at 0.25%. But don’t take my word for it as here are the Bank of England Agents.

competition remained intense, driven by new market entrants and low funding costs

What about valuations?

There have been a lot of anecdotal mentions of surveyors lowering valuations ( which is a forward indicator of lower prices ahead) but this from the Bank of England Agents is the first official note of this.

There were more reports of transactions falling through due to surveyors down-valuing properties, reflecting concerns about falling prices.

This could also be considered a sign of expected trouble as they discuss mortgages.

However, this competition was mainly concentrated on customers with the cleanest credit history.

Affordability and Quality

This issue has also been in the news with the Resolution Foundation telling us this.

While the average family spent just 6 per cent of their income on housing costs in the early 1960s, this has trebled to 18 per cent. Housing costs have taken up a growing proportion of disposable income from each generation to the next. This is true of private and social renters, but mortgage interest costs have come down for recent generations. However, the proportion of income being spent on capital repayments has risen relentlessly from generation to generation thanks to house price growth.

As someone who can recall his maternal grandparents having an outside toilet and paternal grandmother not having central heating I agree with them that quality improved but is it still doing so?

millennial-headed households are more likely than previous generations to live in overcrowded conditions, and when we look at the distribution of square meterage we see today’s under-45s have been net losers in the space stakes

I doubt many are as overcrowded as the one described by getwestlondon below.

A dawn raid on a three-bedroom property in Brentt found 35 men living inside……..The house was packed wall-to-wall with mattresses, which the men living there, all of eastern European origin, had piled into every room except the bathrooms.

But their mere mention of overcrowded raises public health issues surely? As ever the issue is complex as millennials are likely to be thinking also of issues such as Wi-Fi connectivity and so on. Still I guess the era of smartphones and tablets may make this development more palatable albeit at a price.

More recent generations have also had longer commutes on average than previous cohorts, despite spending more on housing.

Recent Data

The news from LSL Acadata this week was as follows.

House price growth fell marginally in August (0.2%), which left the average England and Wales house price at £297,398. This is still 2.1% higher than this time last year, when the average price was £5,982 lower. In terms of transactions, there were an estimated 80,500 sales completed – an increase of 5% compared to July’s total, and up 6% on a seasonally adjusted basis.

Interesting how they describe a monthly fall isn’t it? The leader of that particular pack is below.

House prices in London fell by an average of 1.4% in July, leaving the average price in the capital at £591,459. Over the year, though, prices are still up by £4,134 or 0.7% compared to July 2016. In July, 21 of the 33 London boroughs saw price falls.

An interesting development

Bloomberg has reported this today.

More home buyers are resorting to mortgages to purchase London’s most expensive houses and apartments as rising prices drag them into higher tax brackets.

Seventy-four percent of homes costing 1 million pounds ($1.3 million) or more in the U.K. capital were bought with a mortgage in the three months through July, up from 65 percent a year earlier, according to Hamptons International. The figure was as low as 31 percent during the depths of the financial crisis in 2009.

Perhaps they too think that over time it will be good to lock in what are historically low interest-rates although that comes with the assumption that they are taking a fixed-rate mortgage.

Comment

As we look at 2017 so far we see that  rental inflation has both fallen and according to most measures so has house price inflation although the official measure bounced in the spring . We have seen some monthly falls especially in London but so far the various indices continue to report positive inflation for house prices on an annual basis. Putting it another way it has been higher priced houses which have been hit the most ( which is why the official data has higher inflation). In general this has worked out mostly as I expected although I did think we might see negative inflation in house prices. Perhaps if Governor Carney for once backs his words with action we will see that as the year progresses. The increasing evidence of “down valuations” does imply that.

If we look at the overall situation we find ourselves arriving at one of the themes of my work as I am not one of those who would see some house price falls as bad. The rises have shifted wealth towards existing home owners and away from first-time buyers on a large-scale and this represents a factor in my critiques of central bank actions. Yes first time buyers see cheaper current mortgage costs but we do not know what they will be for the full term and they are paying with real wages which have fallen. On the other side of the coin existing home owners especially in London have been given something of a windfall if they sell.

Can the “unreliable boyfriend” settle down in November?

On the face of it yesterday was an example of “the same old song” at the Bank of England in more than one respect. Firstly something that seemed to get ignored in the melee was that the vote was the same as the last time around which was to continue with the QE ( Quantitative Easing) programme and 7 votes to keep interest-rates unchanged with 2 for a 0.25% hike. The QE vote was apposite as it is currently ongoing with around £3.3 billion being reinvested earlier this week.

The next example of the “same old song” came with a somewhat familiar refrain in the official Minutes of the policy meeting.

All MPC members continued to judge that, if the economy were to follow a path broadly consistent with the August Inflation Report central projection, then monetary policy could need to be tightened by a somewhat greater extent over the forecast period than current market expectations.

This has the familiar promise but as usual had “if” and “could” as part of it. But then there was something new.

A majority of MPC members judged that, if the economy continued to follow a path consistent with the prospect of a continued erosion of slack and a gradual rise in underlying inflationary pressure then, with the further lessening in the trade-off that this would imply, some withdrawal of monetary stimulus was likely to be appropriate over the coming months in order to return inflation sustainably to target.

As they are currently refilling the QE programme and in the past have said that they would raise Bank Rate before changing the QE total this was “central bankingese” for an interest-rate rise. There are obvious issues here but let us park them for now and look for an explanation of why?

The economy is doing better than expected

The initial explanation trips over its own feet.

Since the August Report, the relatively limited news on activity points, if anything, to a slightly stronger picture than anticipated. GDP rose by 0.3% in the second quarter, as expected in the MPC’s August projections,

So we simultaneously did better and the same as expected?! Let us move onto something where this may actually be true.

The unemployment rate has continued to decline, to 4.3%, its lowest in over 40 years and a little lower than forecast in August. Survey indicators are consistent with continued strength in employment growth.

Also no matter how often the output gap theories of the Ivory Towers are proved wrong they are given another throw of the dice just in case.

Overall, the latest indicators are consistent with UK demand growing a little in excess of this diminished rate of potential supply growth, and the continued erosion of what is now a fairly limited degree of spare capacity.

Problems with this view

If you take that as a case for a Bank Rate rise there are two immediate issues to my mind. Let us return to the “output gap”.

Evidence continues to accumulate that the rate of potential supply growth has slowed in recent years.

Actually if you look at the employment situation in the UK exactly the reverse has been true as I pointed out in my “the boy who cried wolf” article on Monday. We have been told that unemployment rates of 7%, 6-6.5%, 5% and then 4.5% are significant as the Bank of England theorists attempt to run in quicksand. If we look at the flip side of this potential supply growth in terms of employment has surged as we have moved to record levels.

Also there is the issue of wage growth which of course is interrelated to the paragraph above. We are told this.

Underlying pay growth had shown some signs of recovery, albeit remaining modest.

They have also looked into the detail and concluded this.

Empirical estimates by Bank staff suggested that these may have depressed annual growth of average weekly earnings by around 0.7 percentage points ( New data from the ONS suggested that compositional effects related to factors including the skills, industry and occupational mix of the workforce had pushed down average pay growth in the year to Q2. )

Let me bring this up to date as Gertjan Vlieghe is giving  a speech as I type this and he has reinforced this theme.

Wage growth is not as weak as it was earlier in the year: over the past 5 months, annualised growth in private sector pay has averaged just over 3%. And some pay-related surveys also suggest a modest rise in wage pressure in recent months.

Let me give you a critique of that firstly as shown below.

Actually that is the overall rather than just the private-sector picture but if we look at that and use Vlieghe’s figures it looks to me that he has not include the latest numbers for July where there was a dip in bonus payments as I pointed out on Wednesday. So total annualised wage growth fell from 3.2% to 1.4% and it is odd that Gertjan has apparently missed this as you see he was given the data early.

As to the possible compositional effects let me explain with an example sent to me on twitter.

Janet & John are each paid 100. After good year pay goes to 110; so good they employ Timmy and pay him 80. Ave pay (now for 3) unch at 100 ( @NelderMead ).

Nice to see I am not the only person who was taught to read with the Janet and John books! But the catch is that we keep being told this and then like a mirage it fades away as a different reality emerges. The Bank of England has been a serial optimist on the wages front and has been left red-faced time and time again.

Comment

One thing I welcome about the news flow over the past 24 hours from the Bank of England is the way that it has pushed the UK Pound £ higher. It has gone above 1.13 versus the Euro and 150 to the Japanese Yen and most importantly above US $1.35 which influences what we pay for most commodities. This response to a possible tightening embarrasses those who claimed the Bank of England easing did not weaken the Pound £ last summer. Not the best timing for those saying parity with the Euro was just around the corner either.

Moving onto the economics then there is something more than a little awkward in 9 supposedly independent people suddenly having the same thoughts. It is almost as if they are Carney’s cronies. It is hard not to sing along with Luther Vandross on their behalf.

I told my girl bye-bye
But I really didn’t mean it
Said, ?I met somebody new so fine?
But I really didn’t mean it

If you read the final part of the Gertjan Vlieghe speech there are grounds for him to change his mind.

If these data trends of reducing slack, rising pay pressure, strengthening household spending and robust global growth continue, the appropriate time for a rise in Bank Rate might be as early as in the coming months.

After all he told us this only in April.

I will argue that there is an important distinction to be drawn between good monetary policy and making accurate forecasts

Remember when Ben Broadbent told us he would pick and choose amongst the data ( just after being wrong yet again).

Also it is hard to forget these previous episodes.

Mark Carney Feb 2016 “the MPC judges that it is more likely than not that Bank Rate will need to rise over our forecast period”

He of course later cut Bank Rate and before that there was this.

Mark Carney June 2014 An interest-rate rise ” could happen sooner than markets currently expect. ”

So let us welcome a stronger Pound £ as we note that Forward Guidance has been anything but. Let me finish with some Friday music from Prince which has been removed from the Bank of England play list.

This is what it sounds like
When doves cry

What are the prospects for the UK house prices and rents?

One of the features of economics and economics life is that no matter how unlikely something is if it suits vested interests it will keep being reinvented. On that topic let us see what the Royal Institute of Chartered Surveyors or RICS has reported this morning.

Nationally, 61% felt landlords would exit the market over the coming year, while only 12% felt there would be a greater number of entrants. Moreover, for the next three years, 52% felt there would be a net reduction in landlords, with only 17% suggesting a rise.

Those of us who feel that the UK economy has been tilted too much towards the buy to let sector will be pleased at that but not the RICS which gives a warning.

Given the likely resulting supply and demand mismatch in this area, respondents predict that over the next five years rental growth will outpace that of house prices, averaging 3%, per annum (against 2% for house price inflation).

As to the deja vu element well let me take you back to November 4th last year.

Rents in Britain will rise steeply during the next five years as a government campaign against buy-to-let investing constrains supply, estate agencies have forecast.

Okay how much?

London tenants face a 25 per cent increase to their rents during the next five years, said Savills, the listed estate agency group. Renters elsewhere in the country will not fare much better, it said, with a predicted 19 per cent rise.

Whilst we are looking back to then there was also this.

JLL, another estate agency group, predicted a 17.6 per cent increase across the UK by 2021, with London rents rising 19.9 per cent, far outstripping predicted rates of inflation.

What has happened since last November?

If we look back I was very dubious about this and pointed out a clear problem.

If you look at the pattern of rental growth it follows the improvement in the UK economy with a lag ( of over a year which is another reason why it is a bad inflation measure) which means that it looks to be driven by improving incomes and probably real incomes rather than the underlying economy. Thus if you expect real income growth to fade (pretty much nailed on with likely inflation) or fall which seems likely then you have a lot of explaining to do if you think rents will rise.

In essence there is a strong correlation between income growth and real income growth and rental growth in my opinion. We now know that so far this has worked because back in November I pointed out that the official measure of rental inflation was running at 2.3% and yesterday we were updated on it.

Private rental prices paid by tenants in Great Britain rose by 1.6% in the 12 months to August 2017; this is down from 1.8% in July 2017.

Shall we check in on London?

The growth rate for London (1.2%) in the 12 months to August 2017 is 0.4 percentage points below that of Great Britain.

So we see that my methodology has worked much better than those in the industry as the phrase “vested interest” comes to mind. If you are struggle to predict capital profits ( house price rises) for your customers then promising some increased income (rents) works nicely especially at a time of such low interest-rates and yields elsewhere. The problem with this was highlighted by Supertramp some years ago.

Dreamer, you know you are a dreamer

If you look at the chart then it looks like the only way is down which looks awkward for the vested interests squad. Care is needed as it is a diverse market with rents in Wales rising albeit from a low-level and a variety of levels as shown below.

the largest annual rental price increases were in the East Midlands (2.8%),…….The lowest annual rental price increases were in the North East (0.4%),

But until we see a rise in real incomes then there seems to be little or no case for a recovery overall. At this point the UK establishment will be getting out the champagne as they will feel they put rents into the “most comprehensive” inflation measure CPIH at exactly the right time.

What about house prices?

As today is a policy announcement day for the Bank of England let us look at what house prices have done during the term of the present Governor Mark Carney. When he arrived in July 2013 the average house price in the UK was £174,592 whereas as of July this year it was £226,185 according to the Office for National Statistics. This replaced a three-year period of stagnation where prices had first fallen a bit and the recovered. So he has been the house owner and buy to let investors friend.

Some of the policy changes to achieve this preceded him as it was under the tenure of the now Baron King of Lothbury that the Funding for ( Mortgage) Lending Scheme was introduced. But Governor Carney could have changed course as he did in other areas. However he did not and I noted back then a fall in mortgage rates of around 1% quite quickly and the Bank of England later calculated a total impact on mortgage rates of up to 2%.

There are of course differences across the country as I looked at on Tuesday where the surges in London have been accompanied by much weaker recoveries all in other areas of which the extreme case is Northern Ireland  But the overall move has been higher and not matched by the lending to small businesses which the policy effort was badged as being for.

So if we now look ahead we see wage growth but real wage declines. We see that there has been an extraordinary effort to reduce mortgage rates from the Bank of England. There was also the Help To Buy programme of the government. All of these factors point to stagnation looking ahead and if anything the surprise has been that the various indices have not fallen further. Should London continue to be a leading indicator then perhaps more patience is needed.

The London* price gauge remains stuck firmly in negative territory, posting the weakest reading since 2008. Furthermore, the price indicator has turned a little softer in the South East of England,  ( RICS)

Comment

There are unknown factors here as for example we could see another wave of foreign purchases in London. The Bank of England could ease policy again however the power of Bank Rate cuts and indeed QE has weakened considerably in this regard. This is because if you look at countries like Sweden and Switzerland then with individual exceptions the bulk of mortgage rates hit a bottom higher than you might imply from the official negative interest-rates. This is in my opinion because banks remain unwilling to pass negative interest-rates onto the retail depositor as they fear what might happen next. So if the Bank of England wants to do more its action would have to be direct I think.

The other road that the Bank of England has been hinting at via its house journal the Financial Times is Forward Guidance about an interest-rate rise. Perhaps we will see more of this today and this is unlikely to support house prices as it would be the doppelganger of the last four years or so, especially of the “Sledgehammer QE” of August 2016. This means that today’s policy move could yet be putting Jane Austen on the new ten pound note. Perhaps the PR spinning around this will manage to put a smoke screen around the fact that there seems to have been a “woman overboard” problem at the higher echelons of the Bank.