-What action can Central Bank of England take?
The Central Bank of England put new cards on the table last August following the EU referendum to take measures to lessen the implications of Brexit. Now the Monetary Policy Committee (MPC) of the bank is considering a retraction from these measures. At its meeting on Aug. 3, 2016, the MPC voted for a package of measures designed to provide additional support to growth and to achieve a sustainable return of inflation for its 2 percent target.
This package comprised a 25 basis point cut in the bank rate to 0.25 percent; a new term funding scheme to reinforce the pass-through of the cut in the bank rate; the purchase of up to £10 billion of U.K. corporate bonds; and an expansion of the £60 billion asset purchase scheme for U.K. government bonds, taking the total stock of these asset purchases to £435 billion. However, the bank’s inflation target of 2 percent still has not been achieved.
Inflation hit the highest level in four years during April, beating forecasts and likely ending a two-year period of real wage growth, according to published figures from the U.K. Office for National Statistics. Prices were 2.7 percent higher than the same month a year ago, a higher increase than the 2.3 percent seen during March. But the real problem is that wages are not rising at the same pace, falling behind inflation and pressuring household expenditure. Labor market data shows that wages grew 2.1 percent in the three months to March.
However, last month the Bank of England indicated that it is closer to raising the interest rate as three members of the MPC voted for a 0.25 base point interest rate hike. The 5-3 split to keep interest rates at their record low of 0.25 percent surprised the financial markets. The Bank of England Governor Mark Carney also gave confused messages to the market. At first, he said the bank was not in a rush to apply an interest rate hike, a stance confirmed by Howard Archer, chief economic advisor to the EY ITEM Club, who also said that Carney was not in any hurry to increase the rate.
“At first glance, the latest remarks from the Bank of England Governor come across as less dovish than his Mansion House speech which gave the impression that he is in no hurry to raise interest rates. The markets have also interpreted the Governor’s latest remarks as less dovish with sterling immediately spiking up following the speech,” Archer had said.
“The Governor indicated that the inflation overshoot can only be tolerated by the Bank of England for so long. He indicated that some removal of monetary expansion is likely to become necessary if spare capacity continues to be eroded,” he added according to the Guardian article.
There is now a greater expectation interest rates could raise before the end of the year. However, neither inflation nor wage growth rate are at levels that the bank expects. Last month, Kristin Forbes, Ian McCafferty and Michael Saunders from the MPC voted for an interest rise to 0.5 percent. If further inflation and wage growth data result in a support of this view, more MPC members could join the side to increase the rate.