Interest rate predictions

The MPC’s latest decision was hold and a rise looks a long way off – despite figures showing (18 October) inflation had climbed to a new high of 5.2 per cent.

The committee is focused on heading off a double-dip recession, believing inflation will fall next year, and therefore opted at the October meeting to restart its quantitative easing programme – an electronic form of money printing.  The October MPC minutes revealed members talked about £100billion of QE before agreeing on £75billion.

The vote was 9-0 in in favour of holding rates – the same as in September and August. The vote had been locked at 7-2 for two months before that and it was 6-3 earlier this year when a rate rise looked a possibility.

That shift in voting reflects the remarkable and rapid movement in forecasts for rates over the summer, with predictions for the first rise, week by week, taking huge strides into the future:
  • In March/April, a rise was seen as imminent;
  • In June, the forecast was for a hike in July/August 2012;
  • By early August, futures markets earmarked early 2013 for the first increase;
  • By October, the market priced early 2014 for a rate rise.

The counter argument to low rates is that inflation – at 5.2 per cent in September (18 October), up from 4.5 per cent and way above its 2 per cent target – is a problem and should be tackled.

There was a warning from the OECD that rate rises must happen in 2011 (25 May) to avoid inflation becoming ’embedded’ in the economy. But the over-arching mood is that the economic recovery remains weak, making it difficult to hike the cost of borrowing.

It’s also worth noting that in the US, the Fed Reserve has said (9 August) it expects its key rate to remain at rock bottom (it’s in a 0-0.25 per cent range) until 2013.

So when will the MPC make the first move?

Interest rate futures have seen a big shift in recent months. At the extremes, they pointed to an immediate rise in spring, but by early October indicated spring 2015 for the first increase.

Today (1 November) they indicate the first rise to be in September or October 2014. Last month’s plans for more QE had briefly combined with hopes for a euro rescue deal to marginally bring forward the chances of a rate rise – to early 2014 – but this soon reversed.

These market predictions are wildly volatile – as we’ve constantly warned – and should be treated with caution. However, for now rate rises look like a distant prospect, despite raised concerns about inflation in the wake of QE2.