Pound plunges after Bank of England's dovish rates signal

Interest rates: why double deflation will not change lift-off timing

17 November

Annual consumer prices in Britain remained negative throughout October, marking the first time there have two consecutive months of deflation since records began in 1996, according to official figures.

Data from the Office for National Statistics shows that the Consumer Price Index basket of goods fell by 0.1 per cent last month relative to the year before, dragged down as in previous months by the sharp slump in fuel prices. The Daily Telegraph reports that lower university tuition fees and cheaper food, alcohol and tobacco have all helped to offset the rising cost of clothing and footwear.

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The stagnation in price pressures – inflation has been at or near zero for the past nine months – is not expected to make a material difference to the timetable for an interest rates increase. Here are three reasons why:

1. The Bank of England prefers a measure of 'core' inflation that strips out volatile food and energy prices. This underlying rate has also been low, but it did pick up slightly last month and came in at a little above expectation at 1.1 per cent.

2. Headline CPI inflation is set to converge with core inflation in the new year, as the anniversary of the end of the nosedive in global oil prices approaches. Brent crude plummeted from around $115 a barrel last June and hit a nadir of $45 in mid-January, before recovering. It has remained at around this level ever since.

This means that from January 2016 onwards, the big drag effect of lower fuel prices in the annual comparison will fall out of the dataset and CPI could immediately jump to around one per cent. Only another move lower in the oil price will distort this trend.

3. Wages in Britain are currently growing at a decent pace of around 2.5 to three per cent annually, with the jobs market showing signs of improvement and even productivity finally beginning to pick up. This means living standards for most are on the up and this should eventually feed into underlying prices. Some analysts fear this could happen faster than is currently expected.

So when can we expect interest rates to rise in the UK? Markets still reckon late 2016 or early 2017 is the most likely prospect, but this forecast will probably be pulled forward if the US Federal Reserve votes to increase rates as expected next month.

Most economists are predicting a rates rise in the first half of next year, probably late spring or early summer.

"Inflation still looks likely to rebound over the coming months, giving the MPC the green light to start raising interest rates from the second quarter of 2016," says Samuel Tombs, chief UK economist at Pantheon Macroeconomics.

Interest rates: is the Fed heading for a December rise?

13 November

Traders obsessing over the timing of a US interest rates rise had plenty to chew over on Thursday, as no fewer than five Fed officials gave speeches that directly addressed this increasingly charged debate. Here's what they said – and what it means.

Stanley Fischer, Fed vice chairman

Fischer's remarks largely concentrated on the arguments against a rates rise and seemed to indicate that he sees them dissipating. He reiterated "previously stated confidence that more inflation was around the corner" and said the US economy is "weathering reasonably well" the "sizable shock" of the strong dollar and slowing global growth, notes CNBC.

"Some of the forces holding down inflation in 2015, particularly those due to a stronger dollar and lower energy prices, will begin to fade next year… While the dollar's appreciation and foreign weakness have been a sizable shock, the US economy appears to be weathering them reasonably well, notwithstanding their large effects on certain sectors," he said.

William Dudley, New York Fed President

Dudley, another permanent voting member of the 12-member Federal Open Market Committee, has been " hesitant to commit to a rate hike" so far, says Reuters. But in a speech in New York he indicated that the risks of not acting were now "finely balanced" with those of lifting rates, marking a "subtle shift" in tone.

In particular, Dudley said the current seven-year low five per cent unemployment rate "could fall to an unsustainably low level" that threatens inflation. He also echoed the comments of some critics – some of whom say central bankers have already waited too long to normalise policy - that seven years of near-zero rates "may be distorting financial markets".

He still warned about the external risks, though, saying they should make rate setters "think carefully".

Charles Evans, Chicago Fed President

Evans is still very much a no-rate hike 'dove' and emphasised this again. He said inflation was likely to remain depressed "well into next year", which by the traditional analysis of the role of interest rates undermines the case for a hike, and highlighted risks coming from elsewhere in the global economy.

But even Evans managed to sound less alarmed than he might as he cited a "gradual" path of increases as "mitigating" any risks.

Jeffrey Lacker, Richmond Fed President

One of the five regional bank presidents that has a vote at the moment, Lacker has twice already voted for a hike this year – making him a rare hawk on the committee. He's not changed his tune.

Lacker said that the recent path of unemployment and underlying inflation "does not warrant such pessimism" as the Fed has displayed. Fox Business adds that he said recent inflationary trends "bolster the case for raising the federal funds rate target now".

James Bullard, St. Louis Fed President

Bullard does not have a vote this year, but like all Fed presidents he will participate in the discussion. He's also a noted hawk and, again, is only becoming more of the view that rates need to rise. Arguing that unemployment and inflation goals have been met, Bullard argued there is no reason to continue to "experiment" with policy extremes.

The verdict

This all amounts to a justification for believing a rates rise is more firmly on the agenda than it has been in some time. Phillip Streible of RJO Futures told CNBC that traders are now pricing it in so confidently – the chances of a hike next month are seen at around 70 per cent – that "the Fed has to strike now or forever hold their peace".

But while Dudley notes the folly of waiting to "see the whites in inflation's eyes", without the pressure of price rises to force its hand, the committee remains vulnerable to any weak data points in the coming weeks. And some reckon that will lead to a familiar 'nearly but not yet' decision.

"Lucy's going to pull the football out from under Charlie Brown again. How many times do we have to see this?" Larry McDonald, head of US macro strategy at Societe Generale, said.

Interest rates: why strong jobs growth won't equal a rise – yet

12 November

With a rates rise in the US looking increasingly likely following reports last week of a jobs boom in America, the latest employment figures in the UK were under close scrutiny.

In many respects the latest UK labour market statistics have not disappointed those hoping for a rates rise in the near future. The count of those officially unemployed – a broad measure of those not in work but actively looking for employment ­– fell in the third quarter by more than 103,000 to 1.75 million. At 5.3 per cent, the proportion of Britons looking for work but unemployed has also fallen and is currently at its lowest level since 2008.

Also under scrutiny is the employment count that measures the proportion of working age Britons in work. This rose by 177,000 to 31.2 million and is now at a record high of 73.7 per cent of the workforce. Youth unemployment has fallen faster than it has for older workers, while the proportion of those employed part-time who say they are seeking full-time work has also fallen. Productivity, which is measured in output per hours worked, has also improved.

The figures point to a healthy jobs market and should strengthen the case for monetary policy to normalise.

But the picture is not entirely rosy. Wage growth, excluding bonuses, fell slightly in the three-month period from 2.8 to 2.5 per cent. But with inflation at zero, this wage growth still points to a steady rise in living standards for British families, while the pay rate, including bonuses, was unchanged for the quarter at three per cent.

Several economists suggest that the weaker underlying wage growth will enable the Bank of England to justify holding rates lower for slightly longer, as they assess the effects of an apparently slowing global economy. Vicky Redwood, the chief UK economist at Capital Economics, told the Financial Times that the data pointed to a "fairly solid labour market, but not one strong enough to warrant an interest rate rise soon".

John Philpott, the director of the Jobs Economist consultancy firm, told The Guardian "There is nothing in these latest data to support the kind of ‘overheating labour market’ narrative that might be used to suggest the Bank of England should start to raise interest rates sooner rather than later".

But with the slack in the labour market being picked up and the US heading for a rise perhaps as early as December, most forecasters are conceding that a rises rise is looking more likely in the early part of next year based on current trends. Howard Archer, chief UK Economist at IHS, told the Daily Mail he retains "the view that the Bank of England is more likely than not to edge interest rates up… around May".

Interest rates: why economists still predict hike early next year

06 November

The Bank of England did not raise rates yesterday. No new members voted for rates to rise this month, either. The commentary accompanying the decision and the latest inflation report, also published yesterday, slightly lowered growth forecasts and pointed to inflation staying below target through most of next year at least.

Taken together, today's newspaper commentators are calling the latest 'super Thursday' of rates publications 'dovish' and talk of borrowing costs being held lower for longer. From the Financial Times to The Mirror the view is that rates may remain unchanged until 2017 at the earliest.

But many economists disagree with that view. They say the report was "neutral" and that a rates rise could still be expected in the first half of next year, probably in the second quarter. Here's why.

1. Should we ignore the voting?

Much is being made of the fact that only one of the nine members, the noted hawk Ian McCafferty, voted for a rise. Given the strong data on wages in recent months and the latest jump in growth in the dominant services sector, there had been expectations of a second or even third member dissenting from the house view.

Samuel Tombs, the chief UK economist at Pantheon Macroeconomics told The Guardian this was not important, arguing that rate rises have been "preceded by zero votes to raise rates just as frequently as when a small minority of members have voted to hike". He added that "the timing of the rate rise is still ultimately in Mark Carney's hands" anyway, as the governor would usually expect to carry the votes of the four other internal members – and thus a majority – with him.

2. Are the markets over cautious?

Reading between the lines, some analysts believe the Bank of England isn't that dovish anyway. In its projection for inflation over the coming two years the bank always assumes rates will follow the predictions of markets, which are for rates to rise at the end of next year or in early 2017. Even then, the Daily Telegraph graph notes, "simulations showed clearly that inflation was likely to overshoot the bank's 2 per cent target" over the next 18 months.

Samuel Tombs and Vicky Redwood, the chief UK economist at Capital Economics, agree this effectively amounts to a call from the bank that rates will need to rise sooner than the market implies. Both are "comfortable" with their existing forecasts for a rise in the second quarter of next year. James Knightley, a UK economist at the ING Group, agrees.

3. Could a rates rise happen early next year?

The Bank of England does not exist in a bubble and there is a rates debate going on over the other side of the Atlantic too. Only that one is more advanced: this week the Federal Reserve chair Janet Yellen said a first increase next month was still very much on the table, with a jobs report due this afternoon expected to add to the sense that the economy is primed for a rise.

Alan Clarke, an economist at Scotiabank, says the US Federal Reserve's upcoming decision on interest rates is likely to prove "crucial" to the Bank of England's own decision. "If the Fed hikes rates and the tone of UK data stays as robust as it has been in the last week or so, there is good reason to believe that a hike could still arrive in early 2016."

Interest rates: UK hike could happen sooner than you think

04 November

If you are one of the many people – including the majority of investors – who are betting a rate hike will not happen until later next year or even 2017, you may need to think again.

Ahead of the latest Bank of England interest rate decision tomorrow, the National Institute of Social and Economic Research (NIESR) has published a report predicting price rises will overshoot a two per cent target in 2018 and 2019 unless borrowing costs are tightened sooner. The think-tank is calling for policymakers to vote for the first increase from the current record low base rate as soon as February, the Daily Telegraph reports.

In its analysis NIESR predicts that growth will remain stable in coming years, easing to 2.3 per cent next year before bouncing back to 2.6 per cent in 2017. It adds that wage rises have been picking up steadily, unemployment appears sustainably low and that factors holding down inflation, such as falling oil prices, will fall out of annual comparisons soon.

Recent weaker economic data – and in particular a fall in growth in the third quarter – had been expected to stay the Bank of England's hand for longer, with investors betting on rates staying put throughout 2016. But figures published this week showing a sizeable bounce in factory output and, earlier today, a rally in the UK's dominant services sector in October, have brought a sense of optimism that the UK will end the year on a high.

Alan Clarke, UK economist at Scotiabank, told The Times the latest readings would already be enough to cause at least a second member of the nine-member rate-setting committee to dissent from the prevailing consensus and vote for a rise in the November or December meetings, paving the way for a more significant sentiment shift next year.

Should interest rates go up it would be good news for savers, including retail investors with large cash reserves, who have been getting lowly returns on their money for six years. But it would be bad news for mortgage borrowers on variable rates, who could see a modest increase in their monthly costs.