Interest rate cut? I’m still not convinced

Tony Ward

August 1, 2016

Tony Ward is chief executive of Clayton Euro Risk

So a big decision for Mark Carney this week when the Bank of England’s Monetary Policy Committee next meets.

The safe bet, and most analysts concur, is the expectation that the Bank of England will decide to lower interest rates for the first time in more than seven years by 0.25%.

Even Martin Weale, the outgoing ‘hawk’ on the Bank of England’s MPC has been seen to change his view from a few weeks ago, now suggesting that the recent batch of weak economic data had taken him by surprise.

Mr Weale said that the data was ‘very material for the decision we’ll be taking’ this week.

He added that the latest PMI reading which showed business activity dropping to its lowest level since spring 2009, was ‘a lot worse than I had thought’.

“They are the best short-term indicator we have at the moment,” he said.

But two questions.

Question one: Is it all as bad as some economists make out? Is Brexit really ‘the biggest economic shock in recent memory’? I mentioned last week that the PMI data Mr Weale refers to is out-of-date with many responses to the survey collected before Theresa May’s appointment, which has been widely acknowledged as calming business fears. And while a recent survey from GfK showed a dramatic drop in consumer confidence following the vote to leave the EU, the survey of 2,000 people was conducted in the first two weeks of July, with the poll ending just before Theresa May became prime minister on July 13. Indeed a separate survey by Lloyds conducted during 18–22 July after a new Cabinet was announced showed that business confidence had broadly recovered following the initial shock of the Brexit vote. Its poll of 200 companies with turnover above £1m revealed business confidence levels increased by 23 points to 29% in July, after falling 26 points to 6% in June. The survey found that 46% of businesses believed prospects over the next year were brighter, compared with just 5% that said they were more pessimistic.

Conflicting data abounds. In reality, I think the true story will take a while to unfold.

Question two: Will a rate cut be enough? I said in my blog two weeks ago that any stimulus programme introduced by the Bank of England should not just include a rate cut but bring in a package of innovative measures. It’s true that many analysts suggest Mr Carney will announce a new round of bond buying, or quantitative easing, in addition to a rate cut. Some economists also expect a renewed boost for the Funding for Lending Scheme. Is this however real innovation?

At risk of repeating myself, I believe that a rate cut in isolation won’t do the job. The Bank is in danger of running out of ammunition in the battle against an economic showdown. A rate cut will not make a dramatic difference to the outlook for the economy. Simon Wells from HSBC agrees saying “If people aren’t feeling confident to borrow, they’re not going to borrow – even if you make it cheaper”. But we shall see. All eyes on Mr Carney.

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