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.
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
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.
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.
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.
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.