Today’s meeting of the Monetary Policy Committee (MPC) marks the first of Mark Carney’s reign as Governor of the Bank of England (BoE). He has joined the BoE with a stellar reputation as one of a handful of global superstar central bankers. His supporters point to the success of the Canadian economy during his stewardship, while most of the other OECD nations suffered the worst of the Financial Crisis. Although questions remain about the extent to which he can claim personal credit for recent Canadian performance (and whether the timing of his move is fortuitous as the outlook for Canada worsens), early impressions that Mr Carney will seek to build on accommodative monetary policy in Britain have apparently been confirmed by the release of this lunchtime’s statement.
In its statement, the MPC acknowledged that CPI inflation is likely to “rise further in the near term” above May’s 2.7% reading. However the Committee’s main area of concern is that the “weak by historical standards” recovery could be threatened by the recent “significant upward movement in market interest rates”. To emphasise this point they noted that “the implied rise in the expected future path of (the) Bank Rate was not warranted by the recent developments in the domestic economy”.
Now this language may sound innocuous enough and is generally what we have become used to hearing, but what followed could well mark the beginning of a new dawn in British monetary policy.
In a significant break from tradition it was also announced that the Chancellor has requested that the MPC “provide an assessment alongside its August Inflation Report, of the case for adopting some form of forward guidance, including the possible use of intermediate thresholds. This analysis would have an important bearing on the Committee’s policy discussions in August”.
In other words the Treasury has been gazing wistfully across the Atlantic at the apparent success of Bernanke’s innovation in tying Quantitative Easing to economic performance indicators and appears to have decided it wants to follow suit. This is not too surprising when you consider the history of central banking has always been characterised by herd-like behaviour. As soon as one central bank has adopted policies, which look like they are working, the others have tended to rush to mimic them.
The immediate market reaction to the MPC’s statement was all too predictable. Sterling fell sharply and the FTSE leapt higher. While both moves have almost certainly been accentuated by the relative lack of volume on America’s national holiday, the market is clearly saying one thing. It expects more QE in Britain.
It is highly unlikely that the BoE will emulate the recent actions by the Bank of Japan, not least because a rising CPI has the potential to become a serious problem, if stoked too rigorously. Therefore for anyone hoping for a Nikkei-like parabolic rise in the FTSE, they will probably be disappointed. Even so, given that the chances of the BoE extending its £375billion QE programme later this year seem to have increased, if there is any summer weakness in British stocks this could present a decent buying opportunity.
However it is Sterling that looks like it is most susceptible to a significant shift in monetary policy, especially against the US Dollar. Currently trading towards the bottom of its post-crisis range the Pound is still about 14% above its early 2009 lows. While the situation today is nowhere near as stressed as four and a half years ago, the movement of currency markets is likely to be heavily dominated by relative adjustments in Quantitative Easing programmes for the foreseeable future. Increasing Dollar strength was already to be expected, but after today’s announcement further Sterling weakness seems on the cards. I am planning to sell into any strength.