Global markets' volatility, significant 'lowflationary' forces, and mixed macro data continue to ease pressure on the Bank of England to begin returning monetary policy slowly toward more normal levels.
The Bank of England (BoE) is releasing the rate and QE announcement, accompanied by the MPC minutes, on Thursday this week at midday in London. Markets expect Ian McCafferty, one of the members of the nine-strong rate-setting committee, to continue to vote for an immediate 25 basis point rate hike in September, after the BoE saw in August the first split on the rate vote since December last year.
The BoE struck a more dovish tone in its August Inflation Report forecasts, when it revised down the near-term inflation outlook on the back of strong external downward pressures stemming from weak oil prices and sterling appreciation. With the prices of imports and oil falling further in July and August, the UK CPI measure of inflation is seen staying close to zero in the second half of this year, or even falling back into deflation again. The August CPI data are due next week on Tuesday.
Mixed data points to poorly balanced economy
"Given that oil and commodity prices weakened markedly further in August and sterling remained strong, import prices have likely come down further since - this is something that the Bank of England is keeping a close eye on and if the trend of falling import prices persists, it would increase the chances that the Bank of England will delay raising interest rates past the first quarter of 2016," IHS Global Insight's UK chief economist Howard Archer said after this week's disappointing factory output and trade figures.
The data coming in since August MPC meeting have shown the UK economy remains significantly fragile and highly unbalanced, pushing the BoE rate hike expectations further into the next year.
The UK-based car plants' scheduled summer shutdowns led to the July manufacturing output index plunging the most since May 2014, while Markit/CIPS business activity survey showed the services sector, the UK's primary source of GDP output, decelerating to a 27-month low in August, indicating a notable slowdown in GDP growth in the third quarter. Feedback from UK businesses reveal that stronger sterling, and weakness in Asian markets and the euro zone continued to bite into sales volumes and margins.
Commenting on the August PMI surveys, Markit chief economist Chris Williamson said, "While some policymakers may be concerned by the slowing pace of expansion and the unbalanced nature of growth, others will be reassured that the economy continues to grow at a reasonably robust pace by historical standards. An upturn in employment growth could also put further upward pressure on wages."
"However, a marked waning of prices pressures other than wages during the month suggests the inflation outlook is benign and is therefore likely to help tip the argument towards postponing any rate hikes until the wider global economic picture becomes clearer," he added.
BoE, Fed versus emerging markets volatility
The minutes from the September meeting of the BoE's Monetary Policy Committee (MPC) will shed more light on the overall sentiment among policymakers in light of the latest round of equity market turbulence in emerging markets, a fragile domestic economy, and the persistence of 'lowflationary' forces being imported to the UK.
Speaking in Jackson Hole on August 29 , the BoE Governor Mark Carney said that slowdown in China and the wider Asian markets, and the possibility of further disinflationary pressures being imported to the UK, could increase downside risks to the inflation outlook in Britain. But Carney at the same time argued that the Asian volatility and economic deceleration in China should not, at least for now, have any significant material impact on the path of the BoE interest rates.
The rhetoric on data-dependent policy stance oozing from the chambers of the BoE goes broadly in line with that of the US Federal Reserve (Fed). The Fed is meeting next week to decide on its policy, with fewer and fewer market participants expecting the first rate hike to come at the September meeting.
In an interview with the Financial Times, World Bank Chief Economist Kaushik Basu said the Fed should put the planned rate hike on hold until the global economy is more stable.
"I don't think the Fed lift-off itself is going to create a major crisis but it will cause some immediate turbulence," he warned. “It is the compounding effect of the last two weeks of bad news with that [China devaluation] . . . In the middle of this it is going to cause some panic and turmoil."
Chinese pressure
The more the central banks on both sides of the Atlantic delay their first step toward more normal monetary policy levels, the more the markets behave frantically upon hearing any mention of a rate hike, while politics and currency wars become a tool for twisted maneuvering.
According to China's official news agency Xinhua, the head of the People's Bank of China's Research Institute of Finance Yao Yudong blamed the Fed for the latest turmoil on Chinese equity markets. Yudong said the expectations the Fed would hike the base rate in September had been a "trigger" for the massive sell-off in August.
In the August MPC Minutes, BoE policymakers judged that "[Asian equities] volatility was likely to have little direct impact on domestic demand in China, where equities accounted for only a small fraction of household wealth."
But policymakers warned, "There could, however, be broader effects on confidence, both within China and beyond, especially if concerns were to grow about the ability of the Chinese authorities to manage a smooth transition of the economy to a more balanced and sustainable composition of demand, and to financial sector liberalization."
The BoE's base interest rate has been stuck at the rock bottom level of 0.5% since March 2009, when policymakers lowered the rate to the minimum and began asset purchases, or QE, in order to spur demand after the 2008 financial credit crunch.
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