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Saturday 4th November 2017
Hi Friend,
Rates on the rise ... the Governor explains why ...
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The Bank of England increased base rate this week. It was the first rate hike in a decade. More of a nudge than a hike, the decision to increase base rate to 0.5% merely returned interest rates to the "status quo ante referendum".
The move to cut rates in August last year was considered by many to be a mistake. The move compounded the weakness of Sterling, increasing the pressures on inflation into 2017.
So why has the bank acted now? Growth has softened into the third quarter, concerns about Brexit persist. The Bank of England is seriously concerned about jobs, incomes and investment as a result of the Brexit decision.
"In many respects the decision was straightforward" explained the Governor, "With inflation high and slack disappearing, the economy is growing at rates above it's speed limit. Inflation is unlikely to return to the 2% rate without some increase in interest rates." Mmmm
Was it really so straightforward? Not all MPC members were convinced. Sir Jon Cunliffe, Deputy Governor for Financial Stability and Dave Ramsden, Deputy Governor for Markets voted against the rate rise. Two out of three deputies were doves. Just one was a hawk. Ben Broadbent, Deputy Governor for Monetary Policy voted for the rate rise. Later he warned that the interest rate increases would mean pain for households. How things have changed.
Ben was still at Cambridge when a rate rise of 25 basis points would appear as a Threadneedle Street typo. In the late 80's Rates increased from 9% to 16% in a two year period. At that time, the Bank of England did not consider interest rates had any impact on consumer spending at all. Keynes' would have us believe that interest rates impact only on the investment cycle. So much for home ownership and mortgage finance! Never a feature of the Keynes' data bank.
So why hike now? The MPC primary responsibility is price stability defined as a 2% CPI inflation target. Inflation was 3% in September. It is expected to have risen a little further in October according to the Governor.
Further rate rises will occur at a gradual pace and to a limited extent. Forward guidance returns. Market expectations are for two further 25 basis points increases over the next three years. Sterling slipped as the Bank announced the decision. Markets rallied as improved dollar earnings will feed into profits.
The Bank has made the move to follow the Fed. So what is the path of future interest rates? The answer may well lie in the Pink Book, published last week without too much coverage ...
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Economics news this week ... Pink Book blushes..
The Balance of Payment Pink Book was published last week. The data for 2016 confirmed a widening of the current account deficit to 5.9% of GDP. The deficit widened to the largest since records began in 1946.
The trade deficit in goods was £135 billion, offset by a £93 billion surplus on services.
In the current year we expect comparable figures to be £140 billion and £100 billion. The overall trade in goods and services deficit is 2.2% of GDP. Of itself a slight concern but fundable given the kindness of strangers and a soft spot for soft yields.
The problem in 2016 was the deterioration in the net investment position. The primary income deficit increased to 2.6% of GDP. UK earnings on assets abroad have fallen relative to earnings on foreign investment in the UK. This is the first time the deficit has appeared since records began in 1997.
The UK stock of international investments was negative by just over £20 billion. The depreciation of Sterling flattered the overall position. We have seen large deficits on current account before but not to this extent. In 1989 the deficit neared 5% of GDP. Base rates were hiked to 15% to inhibit domestic demand and prevent a run on Sterling. In 1974, the deficit hit 4% of GDP. Rates were hiked to 14%. The Treasury was forced to turn to the IMF for help.
The Governor believes that two modest rate rises over the next three years will do the job this time round. "The kindness of strangers, with inky blots and rotten bonds sustained" may yet be exhausted if the Brexit outcome appears too harsh for future earnings and yields. Concerns will fail to be alleviated by a further fifty basis points rise in rates. If external pressures materialize, we will see the real pain for households to which Ben Broadbent alludes ...
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| West Wing WTF ... "I'm the only one than matters"
"I am the only one that matters" the President explained this week. Trump made the remarks in an interview with Laura Ingraham on Fox News Thursday.
There may be no "I" in "Team" but in the White House, there is not much of a team at all. The President is now unsure if Rex Tillerson will remain as secretary of state. "We have a good relationship but he is too weak". Too much Jaw Jaw and not enough War War presumably. The President is off to South East Asia this week. The future of North Korea will feature in talks during the trip. The President is losing patience. The walls and nuclear tunnels are closing in on Kim Jong-un.
The President is also losing patience with the Rule of Law and the Separation of Powers. Very frustrated, Trump has become a top critic of Law Enforcement. "A joke" "A laughing stock" the President explained. Sergeant Bowe Bergdahl avoided prison for desertion. Trump called the sentence a "complete and total disgrace to our military and our country".
"The Death Sentence" for the Uzbecki terrorist, the call, Send him to Guantanamo Bay (or Puerto Rico), the President tweeted. Crooked Hilary Clinton narrowly avoided a similar claim. The President urged the Department of Justice and the FBI to investigate the Democrats. Stop the pursuit of innocent members of the Trump election campaign team. They just had minor roles and didn't serve for any great length of time anyway. So what's the point!
The President took time out to appoint Jerome Powell to replace Janet Yellen at the Fed; Congratulate the Houston Astros on their first World Series win; Appeal to the Saudis to bring the Aramco float to Wall Street; Take credit for the fall in unemployment to 4.1% "1.5 million new jobs since I took office" plus "Highest Stock Market Ever". The President takes credit for all. Yes "I am the only one that matters!" You begin to see why.
In a service to humanity, Trump's Twitter account was taken down by a rogue employee. Tragically the downtime was confined to just eleven minutes. The White House Day Care team were dismayed. "I guess the word must finally be getting out and having an impact". The triumphant Trump tweeted. His handset and Twitter platform returned to user ...
Nurse Ratched took away the phone on take off to Hawaii but ... the President is even now back in action and on tour ...
That's all from the West Wing WTF this week.
Have a great week-end,
J
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