To the minutes of the last Bank of England Monetary Policy Committee meeting…
… specifically paragraph 25 where the majority view is discussed:
25 – Most members judged that it was appropriate to maintain the current stance of monetary policy at this meeting. The current weakness of demand growth was likely to persist for longer than previously thought. Moreover, the fiscal challenges in the euro-area periphery highlighted the potential for further adverse shocks to demand. For some of these members, it was possible that further asset purchases might become warranted if the downside risks to medium-term inflation materialised. For others, there remained a substantial upside risk to medium-term inflation stemming from the possibility that inflation expectations might rise significantly, compounded by the potential for further upward shocks to global prices. Although there was no sign that this risk was materialising as yet, that did not preclude it from doing so in the future.
Ignore, for a second, that inflation is forecast to creep up to around 5 per cent by the end of the year.
There are now seven MPC members not voting for action, with newbie Ben Broadbent joining the doves in a 7-2 vote to keep interest rates at 0.5 per cent. His substitution for arch hawk Andrew Sentance has shifted the balance further toward the possibility of QE2, or at least a 2012 — rather than 2011 — rate hike. The remaining dissenting voices, Spencer Dale and Martin Weale, are less hawkish than Sentance, a point made by IHS’ Howard Archer on Wednesday:
And while Martin Weale and Spencer Dale maintain their view that an immediate interest rate rise to 0.75% is warranted, they are not nearly as hawkish as the departed Andrew Sentance was, which further highlights a changed dynamic within the MPC. Indeed, the minutes reveal that both Dale and Weale acknowledged that “the data on the growth outlook during the month ha been weak.”
As the MPC minutes show, some on the committee are clearly leaning towards more QE while others are still worried about inflation. What would it take, then, for the Bank to restart asset purchases?
Robert Barwell at RBS — an advocate of a British QE2 — reckons it’s relatively unlikely now, though a second round could begin in November if more bad news is forthcoming over the summer:
The keys to unlocking more QE are (i.) a significant and persistent fall in commodity prices which take the heat out of near-term inflation and help take the risks of second round effects off the table, and more importantly (ii.) significant weakness in activity and wages which together would suggest materially lower domestically generated inflation (DGI) in the medium term.
We suspect that a negative Q3 GDP print, corroborated by dire survey data, is a necessary condition for the Committee to be convinced that more QE is required in November. A possible sufficient condition is a persistent global shock to which the UK economy is heavily exposed – most likely a financial crisis, perhaps triggered by a disorderly resolution of the European periphery crisis – which would both depress commodity prices and UK DGI.
Here’s a bit more on them doves’ from Barwell’s colleague Andy Chaytor:
The doves are (presumably) worried more about growth, the hawks inflation expectations – but the signs on growth are much more worrying than the signs on inflation expectations. To take the latter first, 5y 5y inflation swaps in the UK are close to the middle of their 3.20 – 3.70% range of the past year. The Bank of England / GfK 12m ahead inflation expectations in May were at 3.9%. High, BUT down from 4.00% in February. And with inflation expectations as with everything else, path is more important than level.
However, things are much bleaker on the growth side. Yes the MPC has said that some of this maybe transitory. ” It was possible that the reduction in the manufacturing PMI in recent months had overstated the slowing in underlying output growth, perhaps as a consequence of the supply-chain disruption caused by the earthquake and tsunami in Japan, and the reduced number of working days in April given the additional bank holiday for the royal wedding.” But this is GOOD news for bond bulls. It means that even if the recent weakness is just transitory then some members are worried enough to be considering QE anyway with the underlying state of the economy. If this growth weakness is not transitory, it becomes quite easy to see how a majority for QE develops.
That suits Chaytor’s book, of course. He loves gilts and is telling clients to short sterling and buy bonds.
Even so, he has a point. In as much as the market will increasingly start to price in QE if the recent economic weakness isn’t transitory:
Remember Central Bank views / discussions normally change much more quickly than the market initially prices. And remember for us to be ‘right’ and make money on the QE trades we require not that QE happens, but that the market prices it in to some extent. A crucial point we think.
At pixel time it looks like this could well be the case: the yield on the benchmark 10-year gilt was 3.159 per cent, down from around 3.210 per cent before the release of the minutes.
By Nell Hume and John McDermott
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The BoE behind closed doors – surprisingly philosophical – FT Alphaville