Comments: Time for a rate cut gift from the Bank

A rate cut is a good idea so long as it doesn't re-inflate the UK housing bubble.

House prices do need to fall by (as HSBC chief economist says) approx 30% in order to return the living standard of the average working person in the UK to some kind of historical norm.

Posted by Nick thorne at December 2, 2007 08:33 AM

Two things demonstrate the credit crunch is a lot worse than previously expected:

The action on the ABX during Oct/Nov showed that the credit crunch was only going to get worse.

The E-Trade mark at less than 30% of par for their prime money-purchase first charge mortgages (not HELOCs as some have said) is the only real trade in RMBS recently. A 70% loss is quite impressive.

Posted by Minh at December 2, 2007 10:13 AM

Actually, with a bit of further poking around it seems the E-Trade asset sale established a mark of 11 cents on the dollar (89% haircut) and was backed by about 70% prime first-charge mortgages:

Posted by Minh at December 2, 2007 10:26 AM

Thanks for that detail. On HSBC, two things. One is the simple mathematical point: if houses are 30% overvalued it requires a 23% fall to bring them back to fair value. Second, what HSBC said was slightly different - that there was 30% of the price rise it could not explain with its model. I have some problems with its analysis but I won't go into them unless HSBC wants to make the report available for everybody to see.

Posted by David Smith at December 2, 2007 11:01 AM

A. Sentance spoke gave us third year economists at warwick uni (where he is based part-time) a lecture recently, and he appeared to be fully undecided, although central bankers will be central bankers. I think the drop in oil price, reducing upward inflationary pressures, will help lubricate a rate cut: and bringing it forward to pre-2008 may help confidence a little.

On another note, 75 basis points?! Is Mr Minford getting bored of stable price expectations? There can be no doubt that one of the banks best achievements since independence has been anchoring expectations tightly around target. Steady-does-it please Mervyn.

Posted by Mark S at December 2, 2007 01:39 PM

Here is an interesting link that looks at the other side of the coin.

Posted by dan at December 2, 2007 01:44 PM

I suspect that agflation will prevent a quick rate cut - assuming that the MPC are aware of a rather unsettling new development: fertilizer shortages - I have just received warning notices from suppliers.

Posted by Mr Naresh Radson at December 2, 2007 03:22 PM

Not sure about 'interesting' link Dan, I think terrifying is probably a better word for any suggestion that the next move in rates might be up. I would be inclined to stock up on canned goods and lock myself in with a shotgun if it were. The Bank clearly, and wrongly, wants to see dead bodies floating to the surface before it takes the already long overdue step of cutting rates. But what do I care? By sitting on their hands and umming and erring, the cuts will need to be much deeper when they do come, but for many it will be too little too late.

Posted by Matti at December 2, 2007 03:51 PM

Dog doesn't eat dog but I have to agree with that.

Posted by David Smith at December 2, 2007 03:58 PM

Everytime rates are cut, it doesn't seem the money goes anywhere other then in to property, we're seeing unsecured lending under control, it's secured lending thats the problem here, and with only one blunt tool to control the cost of money, it's little surprise.

It's almost as if we could do with one set of rates for borrowing against assets and one to support 'other things' - I know it's pie in the sky thinking, but cutting rates will just send a further sign to property speculators, and we're in this mess because of them.

Feeling the pinch at 5.75% is a bad, bad sign that things with this economy have got way way out of its depth and with borrowing costs still at "historic lows" it begs the question, when inflation is so prominent, just where do we go from here?

Posted by Dan at December 2, 2007 04:17 PM

A rate cut?. You are joking aren't you Mr smith?. If the BOE cuts rates, i see the following outcomes:

1. Absolutely no guarantee that banks will pass this reduction on, either through lower mortgage rates or loans.

2. A large rise in inflation, due to a drop in sterling. Seeing as the UK imports such large amounts of goods & services these days (due to labour's wonderful incentives for businesses to remain in this country), this is almost guaranteed.

The MPC are stuck between a rock & a hard place. The sensible thing to do is to keep rates on hold.

Posted by matthew at December 2, 2007 05:17 PM

Dan, I think you're right - we certainly need some way of ensuring it doesn't all just go into housing - unproductive investment at best IMO. Why not encourage people to invest their spare cash into local businesses that actually produce something instead? Mervyn has already said he wishes house prices were part of his remit, or a bigger part than they currently are.

As for the fall in the oil price, which fall would this be - from $98 to $94? A fall of $4 when the price is still far higher than this time last year doesn't make a rate cut any more likely for me.

Posted by Minh at December 2, 2007 06:24 PM

On its own, a 5.75% Bank rate was slowing the economy, though only gradually. The additional factor is, of course, the credit crisis, which has raised the cost and limited the availability of credit. The argument for action by the Bank rests mainly on that - by cutting Bank rate the hope would be that not only overnight rates but three-month Libor would come down by a similar amount. The latter, I'd accept, is far from guaranteed.

For information, the oil price was $88 on Friday, though it could easily go up again, particularly if Opec takes a hard line on output this week.

Posted by David Smith at December 2, 2007 07:45 PM

Dear David,
As you mentioned, the key-point here is the relationship between the three-month Libor and the bank rate.
Statistical regressions using historical data confirm that by cutting the Bank rate, the three-month Libor comes down by a similar amount. However, in periods of increasing uncertainty,
the one-by-one relationship breaks down and the three-month Libor either go down by less, or resists.
Noting also that in the current uncertain environment it would (in my view) make sense for the MPC not to change the Bank rate (to avoid a decision which they might regret at a later stage), I would conclude that they should not cut yet.
Many thanks.

Posted by C Milas at December 3, 2007 10:00 AM

Merv said it's not a matter of timing, it's a matter of data.

After todays figures they have to cut rates IMO or they will look more follish than they already do. I think the only question over tomorrow's decision is not if, it's by how much. I believe they will and should do 50, if they don't move at all there will chaos, confusion and heads will roll...

Posted by James Trouble at December 5, 2007 10:29 AM
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