When the Bank of England held rates at its May meeting it was merely reaffirming what governor Mark Carney had warned the markets about only a few weeks previously at the IMF meetings in Washington. Up until those comments by the Bank of England governor a rate rise was more or less a done deal and the sudden about turn caught markets on the hop.
The dovishness about the Q1 slowdown also manifested itself in the monetary policy committee downgrading its GDP as well as its inflation forecast for this year as concerns about a global slowdown saw policymakers exercise a little excess caution against a backdrop of a sharp rise in fuel costs.
What policymakers probably didn’t anticipate was the sharp fall in the pound that we’ve seen since its April peaks with the pound down over 7% against the US dollar while oil prices have remained steady. It is true that wages have stalled a little in the past few months but we’ve also seen a significant rebound in economic activity since the end of Q1.
It is against this backdrop that today’s hold needs to be seen as the fall in the pound is likely to make it much more difficult for the Bank of England to meet its newly revised inflation target, particularly with the US dollar being so strong and the Federal Reserve being on an aggressive tightening cycle, with the potential for another 2 US rate rises this year.
Ultimately monetary policy doesn’t operate in a vacuum and the Bank of England probably wants to put a floor under the pound against the US dollar, given that it is now within touching distance of 1.30 having been above 1.42 only two months ago.
What better way to do that than for its Chief economist to vote for a hike, joining the other two hawks of Michael Saunders and Ian McCafferty, and for the MPC to issue a hawkish statement to pull the pound off its recent lows, changing the artimetic from 7-2 to 6-3 in voting to raise rates to 0.75% from 0.5%.
It shouldn’t be forgotten that Andrew Haldane also voted for the “sledgehammer” of the August 2016 stimulus package. Has he really flipped from aggressive dove to reluctant hawk on the back of a tighter labour market, or is he voting tactically to help underpin the pound at a time when the pound is looking vulnerable against the US dollar, thus keeping an August rate rise on the table and more importantly on the markets radar.
Whether they deliver in August is another matter but for now today’s actions by the MPC could well be enough to keep the pound above the $1.30 level against the US dollar and keep that inflation target intact.
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