Will UK house prices fall by 35% and is that a good thing?

Yesterday the Governor of the Bank of England attended the UK Cabinet meeting to update them on what the Bank thinks about the potential post Brexit economic situation. Typically the main area focused on has been house prices which of course is revealing in itself. Let us take a look at how this has been reflected in the Bank’s house journal otherwise known as the Financial Times.

Mark Carney, Bank of England governor, has delivered a “chilling” warning to Theresa May’s cabinet that a no-deal Brexit could lead to economic chaos, including a property crash that could see house prices fall by a third.

I pointed out on social media that whilst the journalists at the FT might find such a fall in house prices “chilling” first-time buyers would welcome it. Maybe they might start to find a few places to be affordable. So they might well welcome the fact that the FT then remembered that 35% is more than a third!

Among Mr Carney’s most stunning warnings was that house prices would be 35 per cent lower than would otherwise be the case three years after a disruptive no-deal Brexit — which would assume a breakdown in trading relations with the EU.

If you are wondering what would cause this then it was Governor Carney’s version of the four horsemen of the apocalypse.

The property crash would be driven by rising unemployment, depressed economic growth, higher inflation and higher interest rates, Mr Carney warned.

This is where the water gets very choppy for Governor Carney. This is because he has played that card before, and two of his horsemen went missing. Let me explain by jumping back to May 2016. From the Guardian.

The Bank warned a vote to leave the EU could:

  • Push the pound lower, “perhaps sharply”.
  • Prompt households and businesses to delay spending.
  • Increase unemployment.
  • Hit economic growth.
  • Stoke inflation.

Missing from that list is the higher mortgage rates that he had suggested earlier in 2016. Three of the points came true to some extent as the Pound £ fell and due to it inflation by my calculations rose by 1.25% to 1.5%. This reduced real wages and hit UK economic growth. But unemployment continued to fall and employment rise. Also the delays in spending did not turn up. Or to be more specific whilst there may have been some investment delays, the UK consumer definitely did go on quite a splurge as retail sales boomed.

Where the Governor also hit trouble was on the recession issue. This was partly due to his habit of playing politics where he associated himself with forecasts suggesting there would be one. The actual Bank of England view was careful to use the word “could” but the HM Treasury one was not.

a vote to leave would represent an immediate and profound shock to our economy. That shock would push our economy into a recession and lead to an increase in unemployment of around 500,000, GDP would be 3.6% smaller, average real wages would be lower, inflation higher, sterling weaker, house prices would be hit and public borrowing would rise
compared with a vote to remain.

Partly due to his own obvious personal views Governor Carney got sucked into this. It did not help that the HM Treasury report was signed off by the former Deputy Governor Sir Charlie Bean which gave it a sort of Bank of England gloss and sheen. The May 2016 Inflation Report press conference had question after question on the recession issue which illustrates the perception at the time. Then this was added to in July and August 2016 when the Bank of England and in particular its Chief Economist Andy Haldane again raised the recession issue by telling us the Bank needed a “Sledgehammer” response and then delivering it. Or half delivering it because by the time we got to the second part being due ( November 2016) it was clear that the chief economist had got it wrong. But that phase seemed to be driven by a Bank of England in panic mode looking at a later section of the HM Treasury report.

In this severe scenario, GDP would be 6% smaller, there would be a deeper recession, and the number of people
made unemployed would rise by around 800,000 compared with a vote to remain. The hit to wages, inflation, house prices and borrowing would be larger. There is a credible risk that this more acute scenario could materialise.

Did the Bank of England Sledgehammer stop a recession?

Over the past 2 years this has come up a lot with journalists and ex Bank of England staff suggesting that it did. If so it would have been the fastest real economy response to monetary action in history. That would be odd at a time the ECB was telling us it thought the reaction function had slowed, But anyway rather than me making the case let me hand you over to Mark Carney himself and ony the emphasis is mine.

Monetary policy operates with a lag – long and
variable lag, as you know – and if there is a sharp adjustment in demand, in activity, from whatever event, it will take some time for stimulus, if it’s provided – if it’s appropriate to be provided – for it to course through the economy and offset, to cushion that fall in demand. ( May 2016 Inflation Report press conference)

Although he did later claim to have “saved” 250,000 jobs showing yet again the appropriateness of the word unreliable in his case.

Interest-Rates

This is another awkward area for the Governor as he is back to predicting higher interest-rates. The last time he did that he cut them! Still maybe he has learnt something as his critique of a future cut is a description of what happened after the August 2016  one.

“If you cut rates you would end up with higher inflation.”

Public Finances

Moving away from the Governor to the Chancellor he appears to be unaware that the deficit figures have improved considerably.

Mr Hammond said the Treasury would be constrained in its ability to tackle the crisis by boosting spending, noting the country was still recovering from the aftermath of the 2008 crash and questioning the effectiveness of a fiscal stimulus in one country.

Comment

There is a fair bit to consider here. Let us start with house prices which have proved to be rather resilient in 2017/18, and I mean the dictionary definition of resilient not the way central bankers apply it to banks and growth. I thought we would see the beginnings of some falls but whilst there have been some in London the national picture has instead been one of slowing growth. The ideal scenario in my opinion would be for some gentle falls to deflate the bubble.Some argue that it could be done by them being flat for a while but with wage growth seemingly stuck in the 2% to 3% range that would take too long in my opinion.

But house prices are too high and the Bank of England and the government have conspired and operated to put them there. The use of the word “help” in some of the policies has been especially Orwellian as the result of it is invariably to push house prices even higher and thus even more out of reach. So to them a 35% fall seems dreadful and I can imagine the gloom around the cabinet table as it was announced. The Governor would have been gloomy too as the fall would be slightly larger than the rises his policies have helped to engineer as we mull whether that is why 35% in particular was chosen?

So overall a 35% fall in house prices would bring benefits but it would not be a perfect policy. I have had various replies on social media from people who have recently bought and I have friends in that position. I wish them no ill which is why my preference is for the scenario I have outlined. But the housing market cannot be a one way bet forever .

Also let us take some perspective. You see there is little new in the forecast we have discussed today as it has been the Bank of England no-deal Brexit forecast for some time now. So let me finish on a more optimistic note tucked away in the FT article.

However, he boosted Mrs May’s position when he said that if she struck a Brexit deal based on her much-criticised Chequers exit plan presented to Brussels in July, the economy would outperform current forecasts because it would be better than the bank’s assumed outcome.

A reward for his extra seven months? At that point the Prime Minister might have mused how much nicer he might have been if she had given him an extra year.

 

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The UK economy boomed in July

Today brings us a raft of data on the UK economy including something relatively new which is the monthly update or economic growth or GDP (Gross Domestic Product). This is part of the new structure where we get the quarterly numbers a couple of weeks later than we used to, which is a good development in terms of them being based on more hard data. But it is not clear to me that having monthly GDP adds an enormous amount to what we know with the data of it being somewhat erratic and perhaps plain wrong.

Anyway we will be able to compare the number for July with the business surveys we have which in the case of the Markit PMI have told us this.

No change is expected at Threadneedle Street on Thursday when the Bank of England meets to set interest rates. The resilient pace of growth signalled by recent PMI surveys will have come as some relief after the August rate hike, but it seems likely that the Monetary Policy Committee will await further news on the economy amid the intensifying Brexit process before tightening again. Rates could rise sooner than March of next year if clarity on the Brexit deal comes earlier, however this seems an unlikely scenario.

Actually they have omitted to point out that they believe the UK economy will grow by 0.4% in this quarter although the jury is out as to whether that is resilient. Compared to the weak monetary data it is but they are not followers of it. Also is there anyone who believes the Bank of England might raise interest-rates at its policy meeting on Wednesday/Thursday? Frankly the list of people who believe it will raise any time soon might not stretch much beyond Markit.

If we stay with the Bank of England its Governor Mark Carney will have smiled at this from the economics editor of the Financial Times over the weekend.

The gambit worked. Britain soon regained economic stability.

Yes he apparently single-handedly restored the UK economy after the EU Leave vote a view I find simply breath-taking. But wait there was more.

The weeks after the referendum defined the reputation of the Canadian at the helm of the BoE and have now earned him two extra years in the post.

Yet later came rather a list of problems which exemplify the phrase “unreliable boyfriend”.

Too often his predictions have proved false. He promised to serve only five years because there are limits to the time anyone can cope with such a punishing job, but will now stay for seven; he said a Leave vote risked a recession that has not materialised, and wrongly predicted that the first rise in UK interest rates above 0.5 per cent was looking likely at the end of 2014.

A more rational and composed assessment would be that yes he did his job on the day after the EU Leave vote but that there is a much longer list of failures. Also I note that the FT has omitted pumping up house prices as one of his failures. Added to that a failing that he was also criticised for in his time at the Bank of Canada is presented as a strength.

It is rare to find central bankers as willing to take a brave stance on important political questions.

Also it is nice of the FT to admittedly very belatedly confirm my long-standing view on his real objectives.

Having agreed to extend his term at Threadneedle Street, Mr Carney need not worry about the merry-go-round of international top jobs.

Did we miss the news that he had extended his term? If so someone needs to inform the Bank of England website.

Mr Carney has announced that he will serve to 30 June 2019

Good news for the UK economy

This morning has brought some sunshine for the UK economy.

Rolling three-month growth in July 2018 was the highest since August 2017, when it was also 0.6%. This continued a pickup from flat growth seen in April 2018.

As is regularly the case this was driven by the services sector.

with a rolling three-month growth of 0.6% in the services industries resulting in a large positive contribution. Production industries had growth of negative 0.5%, dragging on GDP growth. However, construction had a larger contribution to GDP growth than last month, with a large rolling three-month growth of 3.3%.

The strong construction performance rather nicely coincides with my own measure where I count the cranes along Nine Elms between Battersea Dogs and Cats home and Vauxhall Cross. This has risen to a record of 40 which does not count the 2 just before the Dog’s home nor the 6 the other side of Vauxhall Bridge.

Putting it chronologically this was driven by a strong performance in the month of July.

The month-on-month gross domestic product (GDP) growth rate was 0.3% in May 2018, 0.1% in June and 0.3% in July.

Whilst welcome this to my mind highlights a problem with monthly data. Do we really believe that as a pattern where we have two really good months and a poor one? The problems with highlighting monthly data are shown by an area which is a strength of the UK economy.

Within this industry, architectural and engineering activities was the largest contributor with a monthly growth of 4.4%, although this follows a month-on-month growth rate of negative 2.6% in June.

As you can see the June data was rather poor whereas if we take some perspective we note this.

 This industry has shown substantial growth over the past two years.

There is another area where a local guide is performing well as I note the Movie Makers vans and lorries currently residing in Battersea Park.

motion pictures, which increased by 4.1%, contributing 0.04 percentage points

Let us move on with only one cloud in our sunny skies.

Rolling three-month manufacturing growth to July was negative for the fifth consecutive rolling period at negative 0.1%.

Trade Wars

We advance on this data with some trepidation as it is a perennial problem for the UK.

The total UK trade deficit (goods and services) narrowed £1.4 billion to £3.4 billion in the three months to July 2018. Removing the effect of inflation, the total trade deficit narrowed £2.0 billion to £2.5 billion in the three months to July 2018.

If we look at this in terms of the good, the bad, and the ugly we see the following.

The total UK trade deficit (goods and services) narrowed £13.8 billion to £17.0 billion in the 12 months to July 2018. ………The main driver was the trade in services surplus, which widened £8.4 billion to £117.1 billion in the 12 months to July 2018; services exports rose £10.7 billion compared with £2.3 billion for imports………The goods deficit narrowed £5.4 billion to £134.1 billion in the 12 months to July 2018; exports of goods increased £20.2 billion, while imports of goods rose by a lesser £14.8 billion.

The good is plain to see via the improvements seen but that also illustrates the bad as even with good news we still have a deficit. The ugly part comes in when we note that our deficits have lasted not only for years but also for decades.

Comment

Today has brought good news on the UK economy and we should consider how much it changes our view on economic events. To my mind only a little as at least some of this is if you like a “catch-up” from the weak weather related data seen around the end of the first quarter. The overall view of around 0.4% quarterly growth still holds true as we wait to see what happens to the monetary data. As to the trade figures any improvement is welcome although I have ongoing doubts about their accuracy.

Moving to the Bank of England the GDP data will put a positive gloss on its August Bank Rate rise although of course it is supposed to look forwards and not backwards, as today’s data precedes it. Also I note an example of what the French call plus ça change, plus c’est la même chose. Remember this?

I have therefore decided that pre-release access to ONS statistics will stop with effect from 1 July
2017. ( National Statistician John Pullinger)

Whereas rather than being officially told they are now unofficially told or something like that.

, exceptional pre-release access for the Bank of England has been granted for this release.

Okay why?

would only be considered in exceptional circumstances, where denying such access would significantly impede the taking of action in the public interest.

As the policy meeting is this week I can see no such exceptional circumstances.

The Bank of England Governor should always be appointed for a set term

Yesterday not only brought us news on a long running farce at the Bank of England, it showed us what a difference a week can make. To illustrate the latter point here is @RANSquawk from the 28th of August which as you might imagine immediately set off my official denial klaxon.

UK Treasury denies Carney report

The report was that he would be extending his term as Bank of England Governor for another year. This was a case of potential deja vu because back in October 2016 he wrote this to the Chancellor Phillip Hammond.

I would be honoured to extend my time of service as Governor for an additional year to the end of June 2019. By taking my term in office beyond the expected period of the Article 50 process, this should help contribute to securing an orderly transition to the UK’s new relationship with Europe.

In case you were wondering how his could happen? It all came from the original appointment by George Osborne when he was so desperate to get his man he drove a bus through the formal arrangements.

As you will recall,I was appointed as the next Governor in November 2012 for the statutory eight-year
period of office as set out in the Bank of England Act. At that time,I  clearly signalled my intention to
serve for five years.

So it was possible to extend the term as in fact he had been appointed for eight years,  but had been allowed to say he would only serve five which turned out to be six. News emerged yesterday from the Bank of England in-house magazine otherwise known as the Financial Times that seven is the new six.

Mark Carney is expected to extend his stay as governor of the Bank of England until 2020, after Theresa May backed a plan to maintain stability at the central bank through the turbulence of Brexit. Mr Carney told MPs on Tuesday that he would be willing to stay as governor of the BoE beyond his planned exit at the end of June 2019 to help the Brexit process as well as the transition to a new governor. Mrs May has endorsed the plan, with senior government figures saying Mr Carney would now remain in post until the second half of 2020. The precise departure date is expected to be announced by Philip Hammond, the chancellor, within the next week.

You would have thought that the departure date would have been figured out at the beginning, after all how hard can it be to add one year? But I suppose after doling out an extra year maybe you might dole out an extra month or even week as well! Added to all of this is the begged question if the “personal family considerations” were in fact career plans such as Canadian politics ( blocked by the advance of Trudeau), or moving to the IMF ( blocked by the reappointment of Christine Lagarde)? Should the Governor end up serving until June 2021 that would be perfect timing for the IMF job.

Meanwhile I am grateful to the world of physics for informing us that there are an infinite number of other universes which means that there must be one somewhere where this is true.

One senior government figure: “The PM thinks he has done a good job in difficult circumstances; he is well-respected and has a good international standing.”

It seems the disastrous Bank Rate cut of Sledgehammer QE of August 2016 and the promises of more in November 2016 have been magicked away. The Governor did perform well on the morning after the EU Leave vote when the UK government was absent but  the other side of the ledger is larger. He acquired the moniker of being an unreliable boyfriend when in the early days of his broken promises to raise interest-rates and now he is unreliable about how long he will stay as well.

Perhaps though we are looking at the wrong official measure for “good job in difficult circumstances”, as after all house prices have continued to rise.

The UK economic situation

There was some good news this morning from the Markit business survey or PMI.

At 54.3 in August, up from 53.5 in July, the
seasonally adjusted IHS Markit/CIPS UK Services
PMI® Business Activity Index reached its secondhighest
level since February…….UK service providers experienced a stronger increase in business activity and incoming new
work during August. Improving business conditions
helped to underpin a rebound in employment
growth to its fastest for six months.

So the weaker news from the manufacturing and construction surveys from earlier this week was offset leading to this conclusion.

The survey data indicate that the economy is
on course to expand by 0.4% in the third quarter, a
relatively robust and resilient rate of expansion that
will no doubt draw some sighs of relief at the Bank of
England after the rate hike earlier in the month.

So we continue to bumble along but it is hardly robust. If the Bank of England is relieved then it is because at least someone there realises that there have been better times to raise interest-rates than this August.

Also there was better news this morning from an area which has struggled so far in 2018.

The UK new car market enjoyed a boost in August, as year-on-year demand rose 23.1%, according to the latest figures published today by the Society of Motor Manufacturers and Traders (SMMT). 94,094 new cars were registered in the month

We should not get out the bunting quite yet as the number below indicates but it is nice to have a better month.

In the year to date, the overall market remains down by -4.2%

The driver of the improvement is as follows.

Meanwhile, the UK’s growing range of hybrid, plug-in hybrid and pure electric cars continued to attract buyers, with a record one in 12 people choosing one. Demand surged by a substantial 88.7%, with the sector accounting for 8.0% of the market – its highest ever level.

I find that intriguing as in my locale there is quite a bit of electric car charging infrastructure with 9 points around Battersea Park, and a couple more on Battersea Park Road. But oddly they are so rarely used! So much so that I check each time I go past now. I guess I will have to see when or perhaps if that changes.

Forward Guidance

You might think after his many failures in this area that the Bank of England Chief Economist might avoid such matters, but apparently not.

Also speaking before the MPs, Andy Haldane, the BoE’s chief economist, said it was unlikely the central bank would be able to cut interest rates as it did after the Brexit vote if there was no deal with the EU.  ( Financial Times)

Odd for a man who in July and August 2016 was in a panic-stricken rush to cut interest-rates ignoring the previous warnings from the Bank of England that they would rise in such a scenario.

Comment

The good news is that the UK economy is continuing to grow albeit at no great pace. The not so good news is that whilst I am a big fan of the Clash the Governor of the Bank of England should not be allowed to sing along with one of their biggest hits.

Well, come on and let me know
Should I stay or should I go?

Should I stay or should I go now?
Should I stay or should I go now?

Apart from the organisational shambles and lack of forward planning there is the issue that the Governor could at least appear to be free of political control. Although it is also true that even the most Stepford Wives style supporters of claims that the Bank of England is independent must now surely give up the ghost. Meanwhile the Clash continue to critique the unreliable boyfriend.

If I go, there will be trouble
And if I stay it will be double
So come on and let me know

Meanwhile the point of external members is for them to provide thoughts that could be classified as “outside the box” so that there is an alternative to the Bank of England version of the Stepford Wives style consensus. Sadly the evidence provided by Professor Silvana Tenreyro to Parliament yesterday was not only a failure in this respect it merely reinforced a consensus that continues to deny economic reality.

I therefore supported our collective MPC decision in February to lower our forecast estimate of U* from 4½% to
4¼%………….. I expect the output gap to close over
the next year or so.

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

 

 

 

Why is the Bank of England preparing for a 0% interest-rate?

Sometimes events have their own motion as after enjoying watching England in the cricket yesterday which is far from something I can always I had time to note it was Mansion House speech time. My mind turned back to 2014 when Bank of England Governor Mark Carney promised an interest-rate rise.

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.

Of course four years later we are still waiting for the unreliable boyfriend to match his words with deeds. Indeed last night he was sailing in completely the opposite direction as shown by this.

The additional capital means the MPC could, if necessary, re-launch the TFS in future on the Bank’s balance sheet, cementing 0% as the lower bound.

We have learnt in the credit crunch era to watch such things closely as preparations for an easing on monetary policy have so regularly turned into action as opposed to tightening for which in the UK we have yet to see an outright one. All we have is a reversal of the last error ridden cut to a 0.25% Bank Rate as I note that the extra £60 billion of QE, Corporate Bond QE and Term Funding Scheme are still in existence.

There was another mention of a 0% interest-rate later in the piece.

Although the principles guiding the MPC’s choice of threshold still hold, with the lower bound on Bank Rate
now permanently close to 0%,

In the words of Talking Heads “is it?”

The Lower Bound

This has been an area which if we keep our language neutral has been problematic for Governor Carney to say the least! For example last night’s speech mentioned an area I have flagged for some time.

relative to the effective lower bound on Bank
Rate of 0.5% at that time

When the statement was originally made there were obvious issues when we had countries that had negative interest-rates well below the “lower bound”. As an example the Swiss National Bank announced this yesterday morning.

Interest on sight deposits at
the SNB remains at −0.75% and the target range for the three-month Libor is unchanged at
between −1.25% and −0.25%

As they are already equipped for a -1.25% interest-rate and have a -0.75% one it is hard not to smile at the “lower bound” of Mark Carney. The truth in my opinion is that it means something quite different and as ever the main player is the “precious” or the banks.

In August 2016, the MPC launched the Term Funding Scheme (TFS) in order to reinforce the pass-through
of the cut in Bank Rate to 0.25% to the borrowing rates faced by households and companies.

As you can see it is badged as a benefit to you and me which of course is a perfect way to slip cheap liquidity to the banks. After all competing for savings from us must be a frightful bore for them and it is much easier to get wholesale amounts and rates from the Bank of England.

Bank of England balance sheet

There are changes here as well.

With the Chancellor’s announcement tonight of a ground-breaking new financial arrangement and capital
injection for the Bank of England, we now have a balance sheet fit for purpose and the future.

What arrangement? There will be a capital injection of £1.2 billion this year raising it to £3.5 billion. That can go as high as £5.5 billion should the Bank of England make profits bur after that it has to be returned to HM Treasury.

The gearing for liquidity operations is quite something to behold.

The additional capital will significantly increase the amount of liquidity the Bank can provide through
collateralised, market-wide facilities without needing an indemnity from HM Treasury to more than half a
trillion pounds. This lending capacity would expand to over three quarters of a trillion pounds when, as
designed, additional capital above the target level is accrued through retained earnings.

On the first number the gearing would be of the order of 140 times.Care is needed with that though as the Bank of England does insist on collateral in return for the liquidity. Mind you that is not perfect as a guardian as those who recall the episode where the Special Liquidity Scheme was ended early due to “phantom securities”. If you do not know about that the phrase itself is rather eloquent as an explanation.

Reducing the National Debt

Yesterday was  good day for data on the UK public finances but that may be dwarfed by what was announced in the speech.

Today’s announcement increases the amount of risk the Bank can carry on its balance sheet. As a result,
the Bank plans to bring the £127 billion of lending extended through the TFS onto our balance sheet by the
end of 2018/19 the financial year.

That had me immediately wondering if the Office for National Statistics will now drop the requirement for this to be added to the UK National Debt. this would bring us into line with rules elsewhere as for example if you will forgive the alphabetti spaghetti the TLTROs and LTROs of the European Central Bank are not added to the respective national debts. Such a change would reduce our national debt from 85.4% of GDP to below 80%. I am sure I am not the only person thinking that would be plenty to help finance the suggested boost to the NHS should you choose.

QE

There was a change here and this reflects the 0.5% change in the “lower bound”

Although the principles guiding the MPC’s choice of threshold still hold, with the lower bound on Bank Rate
now permanently close to 0%, the MPC views that the level from which Bank Rate can be cut materially is
now around 1.5%.
Reflecting this, the MPC now intends not to reduce the stock of purchased assets until Bank Rate reaches
around 1.5%.

Let me offer you two thoughts on this. Firstly as the Bank of England has yet to raise interest-rates from the emergency 0.5% level then discussing 1.5% or 2% is a moot point. Secondly this is a way of locking in losses as you will be driving the price of the Gilts owned lower by raising Bank Rate. Even holding the Gilts to maturity has issues because you get 100 back and in the days of the panic driven Sledgehammer QE buying where market participants saw free money coming and moved prices away the Bank of England paid way over 100.

Comment

It is hard not to have a wry smile at Governor Carney planning for a 0% Bank Rate as one of his colleagues joins those voting for a rise to 0.75%. Of course Governor Carney wants a rise to 0.75% eventually, say after his term has ended for example. The irony was that the person who has put so much effort into trying to be the next Governor voted for a rise. As to how Andy Haldane’s campaign has gone let me offer you this from Duncan Weldon.

Next month: 6 votes to hold 2 votes to hike And one vote for something involving a dog and a frisbee.

There was a time when people used to disagree with my views about Andy Haldane whereas now the silence is deafening in two respects. One is that I do not get challenged on social media about it anymore and the other is that if you look for the chorus line of support that used to exist it appears to have disappeared and in some cases been redacted.

Moving to more positive news there has been rather a good piece written by the England footballer Raheem Sterling and whilst no doubt there has been some ghostwriting the final message is very welcome I think.

England is still a place where a naughty boy who comes from nothing can live his dream.

 

 

 

 

 

 

“Why, sometimes I’ve believed as many as six impossible things before breakfast.” says Mark Carney

Last night the Governor of the Bank of England Mark Carney gave a speech which was extraordinary even for him. At the Society of Professional Economists he stood up and immediately took listeners into a parallel universe that was like the episode in Star Trek where Spock was irrational and violent.

Our guidance means that those who follow us will be better able to anticipate our actions. It will make those
actions more powerful. And it will help households and businesses consume, save, hire and invest with
confidence as the UK determines its path forward.

Just for clarity he is talking about the Forward Guidance of the Bank of England where he has promised interest-rate rises and not only not delivered them but of course ended up making a cut and adding £60 billion of Quantitative Easing. So guiding you in the wrong direction up the garden path helps? Well apparently it is most helpful when he sends you the wrong way.

Guidance is most useful at such turning points.

I was challenged on social media last night by those who claimed he has never promised interest-rate rises. I responded by taking them back to Mansion House in June 2014 when Governor Carney announced this.

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 is because central bankers speak in code as Alan Greenspan of the US Federal Reserve pointed out back in the day.

 I know you think you understand what you thought I said but I’m not sure you realize that what you heard is not what I meant.

Returning to June 2014 financial markets were sure they knew what Mark Carney meant and that was that an interest-rate rise was coming soon. In response the Short Future for interest-rate expectations soared as did the UK Pound £. Here is a nuance to this which is that those who were going to be right as in nothing would happen were probably stopped out of their positions. This was added to by even David ” I can see for” Miles the easing fan writing this about interest-rate rises in the Sunday Telegraph.

But that day is coming.

Back in my days on Mindful Money I pointed this out on the 24th of June 2014.

 If we were in America then Mark Carney would be called a “flip-flopper” as we have had a lot of different types of Forward Guidance from an individual who has not yet been in office for a year. Others may be wondering at Mark Carney’s claim that he has met “thousands of businesses” in less than a year which is quite a rate!

The version according to Mark Carney

Remember this.

the MPC would not even think about tightening policy at least until the unemployment rate had fallen below 7%

Which went wrong about as fast as it could as even the Governor admits.

In the event, the unemployment rate fell far faster than we had expected, falling below 7% in February 2014

If we skip the obvious issue of Forward Guidance from an organisation making yet another large forecasting error there is a clear issue of logic. This is that a sharp fall in unemployment suggests a stronger economy and thus Bank Rate rises as it is a measure according to Governor Carney that is.

– a clear and widely understood indicator of the degree of slack

But apparently less slack meant this.

That guidance was effective. Surveys conducted in the months that followed indicated high awareness of it
among companies, with almost half reporting that they expected Bank Rate to remain at low levels for longer
than they would have done were guidance not in place

So it worked by being wrong! Of course if we switch to the real world companies were probably ignoring all the “flip-flopping” that was already evident. After all he had only been Governor for a year when this happened. From the BBC.

The Bank of England has acted like an “unreliable boyfriend” in hints over interest rate rises, according to MP Pat McFadden…………

“We’ve had a lot of different signals,” he said. “I mean it strikes me that the Bank’s behaving a bit like a sort of unreliable boyfriend.

“One day hot, one day cold, and the people on the other side of the message are left not really knowing where they stand.”

Apparently misleading is helpful

The next section was aptly described by Earth Wind and Fire.

Every man has a place
In his heart there’s a space
And the world can’t erase his fantasies

We find that according to Governor Carney being an unreliable boyfriend brings a whole raft of benefits.

The MPC’s guidance speaks first and foremost to UK households and businesses.

Okay so he is swerving away from the financial markets he has misled to take us where?

And last year, we introduced layered communications, with simpler, more accessible language and graphics to
reach the broadest possible audience.

So we have had some dumbing down and then climbed the steps to the highest Ivory Tower he could find.

It now publishes its best collective judgments on the natural rate of unemployment, the output gap, as well as the
expected growth in productivity, labour supply and potential output.

I would like to pick out just one to illustrate how lost in the clouds this particular Ivory Tower is and that is the natural rate of unemployment. Was it the 7% he first used? Er no. In fact on the 28th of June 2014 it was already in disarray.

Governor Mark Carney pointed out that some work had suggested that the equilibrium unemployment rate (the lowest rate compatible with non-accelerating inflation) may be more like 5.5% than the 6.5% previously used.

I cannot recall if it went to 5% but it did go to 4.5% and is now 4.25%. Imagine the Bank of England had used such “science” to design the Titanic. They would be able to claim that it had not hit the iceberg but only because it would have sunk before it got out of port.

Reality got most suspended here.

The interest rate expectations of households and businesses have remained in line with the MPC’s limited
and gradual guidance………Guidance has reduced the impact of economic uncertainty on short-term interest rates

No the regular hints of an interest-rate rise have increased uncertainty especially when as has so often happened the unreliable boyfriend has flip-flopped. Ironically the next bit is true but not for the reasons given.

Guidance has dampened the volatility of interest rates, consistent with the expected and actual path of policy
rates (Chart 4). Guidance has reduced the impact of economic uncertainty on short-term interest rates.

The truth is that fewer and fewer people take any notice of his pronouncements. This was highlighted last night by the way the UK Pound £ responded with a yawn to the speech. Such a development must be most hurtful to someone whose ego is such that they changed the Bank of England website to have “Latest from the Governor” on the front page.

Comment

This is provided by two responses to last night’s speech. Here is a view which is clear on one side.

Okay so the only way is up! Or perhaps not. From Reuters.

The Bank of England could pump more stimulus into Britain’s economy if this year’s Brexit negotiations result in a bad deal, BoE governor Mark Carney said on Thursday.

In the past this would have been considered to be a masterly speech from a central bank Governor but not when he/she is claiming to provide Forward Guidance. because as you can see they can claim to be right whatever happens via some selective cherry picking but the ordinary person can not.

Why might Governor Carney hint at interest-rate rises and not do them. As ever the “precious” seems to be in the mix. From @IrkHudson.

Helps banks margins