Reading The Runes

06/11/2015 at 11:33 am

Yesterday, just before lunch, some information was released by the Bank of England about the timing of the UK’s first rate hike. As a result, the pound posted its biggest one day fall against the dollar since August’s ghoulish gurgitations, the FTSE 100 reversed its morning losses and gilt yields fell across the curve. We know that markets are hanging on to every scripted syllable out of central banks these days – and the Old Lady had clearly delivered some big, big news.

Rather unfortunately it was not clear from the coverage exactly what this was. The headlines were all over the place. “Bank of England signals rates can remain at lows until 2017”, declared the FT, echoed by the equally authoritative voices of The Economist“The Bank of England may not raise interest rates until 2017” – and the Daily Express (“Interest rates may not rise until 2017, hints Bank of England”). On the other hand the Daily Telegraph asserted that “Global growth risks likely to keep rates at record low well into 2016, BoE suggests”, a more hawkish position putting it in the same corner as The Guardian (“Bank of England to leave interest rates at 0.5% until well into next year”).

So what had happened? Had the Bank signalled, hinted or suggested? And was the substance of whichever denotation that it would hike next year, or the year after? A year is a long time in these uncertain markets, and it would be useful to know.

The headlines were inspired of course by the release of the unmissable quarterly that is the Bank of England’s Inflation Report. But what could explain such varied interpretations of exactly the same material?

Look below the headlines and there were suggestions, or perhaps signals of the answer. The Economist piece, characteristically, brimmed with patriotic vigour, noting that Britain’s economy was now so pathetically weak that it couldn’t even produce the laughably stunted amount of inflation necessary to warrant a single miserable rate rise. The FT referred to the forecast path of inflation. The Express covered the bases on both domestic growth and inflation, while noting the impact of weaker growth abroad in passing. Both the more hawkish papers touched on this ground too, but interestingly also gave space to the impact of low commodity prices and a seemingly contrarian view that the domestic UK economy remained resilient.

This blog does its own homework and usually reads the salient parts of the Bank’s Inflation Report, together with the accompanying and much shorter but (if anything) more instructive Conditioning assumptions, MPC key judgements, and indicative projections data. And it is obvious from the latter that future assumptions about energy prices are much lower now than they were back in the summer – understandably so: as the small print tells us, they are based on futures prices and these have fallen. The Bank’s new prices for gas and oil in 2016 are respectively lower by nine and ten percent. As the s.p. further helpfully explains, these numbers “are used as conditioning assumptions for the MPC’s projections for CPI inflation, GDP growth and the unemployment rate.”

Given that these energy price effects will prove more or less transitory – even assuming they do not reverse over the Bank’s two-year forecast horizon – it is perhaps foolish to read too much into them. It is certainly a mistake to confuse them with weakness in the domestic economy. As Governor Carney himself noted in an afternoon interview with Bloomberg Television:

“My personal view is it is important that we look at [core CPI] particularly because of this imported disinflation, it shows up through core inflation,” he said. “What we want to avoid is to have cost pressures build up too much domestically to the extent that once these foreign factors ultimately pass through the economy, we’re overshooting that inflation target because of domestic strength.”

And the headline of this piece? “Mark Carney: Prudent to Expect U.K. Rate Rise in 2016”.

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