Wednesday, May 16, 2007
A hawkish Bank
Posted by David Smith at 12:30 PM
Category: Thoughts and responses

The Bank of England's inflation report clearly implied that Bank rate will need to rise to 5.75% to achieve the inflation target over the medium-term and even then the risks are deemed to be on the upside. Though no great sense of urgency was conveyed, the Bank is determined to clamp down on inflation expectations, particularly among firms. The report is available here.

Comments

So, it's starting to look like we could be at 6.0% by Christmas. Interestingly also in the report they included market expectations for interest rates which show any possible future rate cuts aren't likely to be until 2009 at the earliest.

Posted by: Minh at May 16, 2007 02:17 PM

Dear David,
Letís compare the February inflation projection (page 47, Chart 5.9) with that in the current report (page 43, Chart 5.9). Under the assumption of a 5.25% base rate, inflation drops to the target quite steeply whereas under the assumption of a 5.50% base rate, inflation reverts to the target much more slowly. Basically, inflation resists more when the interest rate is higher... An indication of a further rise ahead?
Thanks.

Posted by: Costas Milas at May 16, 2007 03:08 PM

Yes, there's definitely a rate rise built in to the new projection - the Bank interprets the money market curve it was working with as indicating a rise to 5.7%, which it will round up to 5.75% if it follows through with the hike indicated by this report. So getting to 6%, while clearly possible, would require some of those upside risks it talks about - particularly on pricing power - to come through. The Bank sees the profile of market rates as indicating 5.6% by mid-2008. Rounded, that's 5.5%, which could be the first cut. In practice, of course, it won't turn out quite like this. Events and the data will be crucial.

Posted by: David Smith at May 16, 2007 03:41 PM

Hi

But on the interesting side, since the inflation report was done, wages and Producer prices have come in lower than expected........(and Inflation has of course fallen)

PS and the Bank of England is of course going to say it is going to clamp down on inflation expectations, its part of the clamping down process. (I expect inflation expectations would rise, if they said..."We aren't concerned about clamping down on inflation")

Posted by: kingofnowhereiii at May 16, 2007 04:57 PM

Also worth pointing out that the last few times the Bank has raised rates, the yield curve has ticked up 10-20 basis points on the strength of the rise alone, so if rates go up in August it might be the case that 6% becomes priced in around November!

Posted by: Minh at May 16, 2007 06:46 PM

David,

What is your skip index reading at present ?

Nick

Posted by: Nick Thorne at May 17, 2007 10:20 AM

Pretty healthy - three at the last count (two is normal, four a boom). A short while ago I was in skip heaven - both neighbours had one.

Posted by: David Smith at May 17, 2007 10:57 AM
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