Interest rates to be held until 2013?

The latest Monetary Policy Committee (MPC) minutes and the latest labour market data supports the view that interest rates will remain on hold for at least the next couple of years, think tank Capital Economics claimed.

The August minutes revealed that the MPC voted unanimously to keep interest rates on hold for the first time since May 2010. Spencer Dale and Martin Weale both switched their votes from a 25bp hike to votes for no change.

The think-tank highlighted that as the MPC’s meeting took place on 4 August, before most of the turmoil in the stock markets, “it seems unlikely that Dale and Weale will shift their votes back to higher rates any time soon”.

The minutes also revealed that some members considered whether there was a case for extending quantitative easing (QE), of which there was no such discussion last month.

Unlike Adam Posen, who maintained his vote for a £50bn increase in asset purchases, these members thought that the case was not quite strong enough.

But they conceded that “further asset purchases might nonetheless become warranted were some of the downside risks to materialise”.

Separately, new data published today showed a 37,100 monthly rise in the claimant count measure of unemployment in July, the largest rise since May 2009. The UK unemployment rate therefore rose from 4.8 per cent to 4.9 per cent.

Samuel Tombs, UK economist at Capital Economics, said: “All in all, then, today’s releases supported own long-held view that rates will remain on hold for a prolonged period – probably until at least the end of 2013.

“And while the continued rise in inflation this year may prevent the MPC from extending QE in 2011, we continue to think that further asset purchases are likely in 2012.”

Azad Zangana, European economist at Schroders, agreed that it was “now impossible to argue that now is the right time” to raise rates.

He said: “Though the committee has always stressed that the impact of higher rates comes with a lag, there is an immediate psychological effect that would damage consumer and business confidence.

“In our view, the likelihood of a rise in interest rates before 2013 is now very slim.”

Mr Zangana agreed with Capital Economics that there does seem to be some discussion of restarting the QE programme.

He said: “At this stage, only Adam Posen is voting in favour of such action amongst the MPC. However, that maybe because of the high rate of inflation the UK is experiencing

“The prospects of more QE could become more tangible in 2012 once the impact of the rise in VAT comes out of the inflation calculation, bringing inflation back down. For now, the Bank of England remains in ‘wait and see’ mode.”

He claimed that the unanimous MPC vote was driven by concern that markets in the eurozone had remained unsettled despite the second bail-out ofGreeceon the 21 of July, citing it as the main downside risk.

Teodor Todorov, economist at the Centre for Economics and Business Research (CEBR), claimed that in light of the weak Q2 GDP data and the rise in CPI inflation to 4.4 per cent, the MPC’s decision was the “obvious” one in view of the “weak recovery in theUKand market turmoil in the eurozone”.

Mr Todorov said: “With the eurozone still in the midst of a sovereign debt crisis and moves towards a fiscal union likely to be difficult to achieve politically, there is a likelihood of another slowdown in the Western economies, and possibly even a recession.

“If the next month carries as many bad news as the one we’ve just had, the case for further quantitative easing will grow stronger, even as CPI inflation is expected to rise further.”

 

arrow_upward