16 Mar 2017

MPC reaction ­- Hawks re-emerge on the committee

Philip Shaw

Chief Economist

The MPC kept policy steady at this week’s meeting. The Bank rate remains at 0.25%; the gilt purchase (QE) target at £435bn; and that for corporate bonds at £10bn.

The headline news was that the vote to maintain the Bank rate was not unanimous as in recent meetings, but 8-1 – external member Kristin Forbes backed a 25bp hike. This represents the first vote for higher rates since January last year. The other two votes were unanimous i.e. 9-0. Departing Deputy BoE Governor Charlotte Hogg took part in the meeting.

There was a distinctly more hawkish tilt to the minutes. Professor Forbes supported her call for higher rates by arguing that inflation would remain above target for at least three years and that domestically generated inflation, global reflation and ‘minimal labour market slack’ posed upside risks to this view. Moreover ‘some members’ (possibly Ian McCafferty and Michael Saunders) were of the opinion that it would not take much more upside news to justify considering tightening policy, as inflation was rising quickly and evidence on a slowdown in activity was ‘mixed’. Hence it is possible that the committee becomes more divided going forwards.

We remain sceptical that the committee will bite the bullet and raise rates this year. There are several reasons why:

  • The MPC has increased its ‘nowcast’ of Q1 GDP to +0.6% from +0.5%. Part of this seems to reflect the continued resilience of survey indices (especially the PMIs) despite indications of a moderation in retail spending. While of course the BoE could be correct, we would point out that the services PMI excludes retail sales (and other distribution) which would not directly pick up the overall effect of softer high street activity. A relevant (converse) example is the weakness of the PMIs last summer, which did not capture the resilience of consumer activity. A more likely scenario in our eyes is that GDP growth moderates over H1 this year.
  • The rate of unemployment has fallen to 4.7%, its lowest level for over 40 years. But there are no signs (at least yet) that wage growth is gathering pace. In fact, and as the minutes pointed out, January’s earnings data were relatively soft. While we cannot base too much on one month’s data, it is worth bearing in mind that January tends to be an important month for private sector wage settlements, so we should not dismiss it either. Given the uncertainty of how headline rates of unemployment relate to economic slack (especially as the door to workers from other parts of the EU remains open for another two years), we doubt the MPC will put too much weight on it, without supporting evidence from firmer pay trends.
  • While dissenters on the MPC can sometimes be a straw in the wind for a shift in ‘mood music’ on the committee generally, there are many examples where this has not been the case i.e. where votes to tighten have been reversed in due course. For example Ian McCafferty backed higher rates between August 2015 and January last year, while he and Martin Weale favoured tighter policy between August and December 2014. Moreover Kristin Forbes’s terms on the MPC ends in June. In other words the dynamics on the committee can change quickly.

Overall sterling rose in response to the minutes while the yield curve steepened. Even so, interest rate markets are not fully pricing in a 25bp hike in the Bank rate until the back end of 2018. In the absence of unexpected resilience in the economy or a notable pick up in wage growth, we suspect that the first move might well even occur beyond then.