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 Wednesday 03 August 2016

PM Bulletin: BoE look-ahead

 

 

The Bank of England (BoE) held off from providing additional stimulus at its last Monetary Policy Committee (MPC) meeting on 14th July. The meeting came just a few weeks after the UK referendum on EU membership and the committee said it wanted to wait a little longer to pick up more clues as to how the UK economy was reacting to the Brexit vote. However, the MPC made it clear that it was prepared to provide additional monetary stimulus at its next meeting which takes place tomorrow. Not only did this delay give the BoE an opportunity to further assess the economic effects of the vote, but it also timed the rate decision with the Bank’s Quarterly Inflation Report. Perhaps more importantly, it suggested that the Bank wasn’t panicking, despite the referendum vote effectively casting the UK economy, not to mention the European Union’s, into uncharted waters.

The UK data released since mid-July has convinced analysts that the Bank will take further action tomorrow. While there was good news on inflation, unemployment and second quarter GDP, we had a weak retail sales number followed by a clutch of disappointing PMI surveys. Just this week we had confirmation that the three main UK economic sectors (Manufacturing, Services and Construction) were all contracting with the deterioration in manufacturing over the past fortnight particularly noteworthy. So it’s not a question of “will” the Bank ease monetary conditions tomorrow, but “by how much”?

As far as the headline Bank Rate is concerned, it used to be the BoE’s view that a rate below 0.5% would have a negative impact on the profitability of small banks and building societies. However, the MPC updated that view back in February 2015, noting that the UK banking sector was now operating with substantially more capital than in the immediate aftermath of the financial crisis. This effectively cleared the path for lower rates. Back then, of course, it didn’t look as if the Bank would need to cut rates further. The US had wound down its quantitative easing (QE) programme and an EU referendum was still just a glint in Nigel Farage’s eye. But now a cut looks inevitable, so the question is whether it will be 25 basis points or will the MPC go the whole hog with a 50 basis point cut to take rates to zero?

The consensus view is that we get a 25 basis point cut tomorrow. This follows on from BoE Governor Mark Carney’s 30th June speech which put the markets on alert for easing “over the summer” but cautioned against rates being too low. Mr Carney said: "As we have seen elsewhere, if interest rates are too low (or negative), the hit to bank profitability could perversely reduce credit availability or even increase its overall price.”

Then attention turns to the Asset Purchase Facility which has been held at £375 billion for four years now. Unfortunately there’s no consensus here. There’s speculation that the MPC could leave it unchanged or raise it by £200 billion. It’s a difficult one to play, so I’m going to assume that a 25 basis point cut is already priced in, along with £50-100 billion of additional QE. If we get a cut and no QE then I’d expect sterling to rally hard while a cut (0.25%, or even 0.50%) and £200 billion of QE should see the pound come under sustained downside pressure. But this really simplifies the possible outcomes as the Bank also releases its quarterly inflation outlook. Any suggestion that the Bank sees a recession in the near future could drive sterling down below its post-Brexit lows.

David: So it’s not a question of “will” the Bank ease monetary conditions tomorrow, but “by how much”?

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Spread Co is an execution only service provider. The material on this page is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by Spread Co Ltd or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

 

Posted by David Morrison

Tagged: Bulletin PM

Category: PM Bulletin


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