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Bank of England implements a confused hold

Today’s decision by the Bank of England to leave interest rates unchanged wasn’t too much of a surprise given the comments a few weeks ago by Bank of England governor Mark Carney.

The voting patterns remained the same with the same 7-2 split that we saw in March, however today’s decision had a distinctly dovish slant to it, in that both the growth and inflation forecasts were downgraded for this year as well as next.

The 2018 GDP forecast has been lowered from 1.7% to 1.4% from February’s inflation report, while also cutting its wage growth outlook for this year from 3% to 2.75%. The bank also lowered its outlook for inflation each year out to 2021, while suggesting that its forecasts were based on the prospect of three rate rises over the next three years.

Despite this downgrade of rate expectations, the bank suggested that Q1 GDP was likely to be upgraded to 0.3% while also saying that it expected inflation to reach its 2% goal much faster than it thought it would three months ago.

This seems hard to square with the recent weakness in the pound when set against a 60% rise in Brent crude prices since last summer. Based on past evidence a sharp fall in inflation would seem optimistic against this backdrop given how sensitive UK consumers can be to energy costs.

That’s before you factor in the state sponsored inflationary effects of higher council tax bills which kicked in this month, as well as higher work place pension contributions, along with the prospect of higher utility bills, over the course of the rest of this year.

The recent slowdown in consumer credit may well be a consequence of these upcoming rises which could well put a floor under the recent fall from the 3% peaks in CPI inflation.

We’ve already seen wages in the UK did rise to their best levels since 2015 last month, and the recent rise in the pound over the last 12 months has helped push the headline inflation rate down in March to 2.5%.

Today’s dovish outlook appears to paint a slightly less optimistic outlook from where we were in February yet most of the factors mentioned earlier aren’t anything new, apart from the rise in the oil price which has risen nearly 20% since the last inflation report.

So yet again we have to digest another change of tack from Bank of England policymakers which speaks to a wider problem that the Bank of England has, in that its policy of forward guidance has been abysmal over the last few years, and seems to change on a quarterly basis.

The MPC expects Q1 GDP to be adjusted higher, to 0.3%, from 0.1%, while the collapse in Carillion hit the construction sector hard, however this shouldn’t have been a surprise given the company’s size in relation to the sector. There still seems some confusion as to how much the weather affected Q1 economic activity, with the ONS suggesting little effect, while the central bank appears to suggest otherwise.

Policymakers continue to suggest that the labour market is showing further signs of tightening yet seem less optimistic about wages growth than they were in February.

In conclusion in downgrading their outlook in both GDP and CPI forecasts, which is dovish, yet the narrative doesn’t appear to be too much different from what policymakers said in February, making you wonder how much has really changed in that time. Recent data has certainly been weak, but the Bank appears relatively unconcerned by that, begging the question why the constant changes in outlook?

This would suggest that policymakers don’t have any more of a clue about what is happening in the UK economy than they had three months ago, and appear to be trying to fine tune their data on a month on month basis.

The Bank of England could learn some valuable lessons from the US Federal Reserve and the European Central Bank about forward guidance in terms of guiding market expectations.

Unlike the guidance here in the UK it has been usually much more incremental and measured and therefore there hasn’t been any of the flip flopping that has been so symptomatic of policy guidance here in the UK since 2013, and which looks set to continue throughout 2018.

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