Shadow MPC doves reverse pro-QE stance

STRONG third-quarter GDP growth has persuaded a majority of City A.M.’s shadow Monetary Policy Committee (MPC) that rates should be kept on hold this month, with further quantitative easing (QE) staved off for now.

The Bank of England MPC will meet today to decide whether to resume QE or raise interest rates from 0.5 per cent against the backdrop of the US Federal Reserve’s decision to restart the printing presses.

Our shadow MPC has shifted its view from the three-way split recorded in September and October. Last month, both Capital Economics’ Vicky Redwood and Lloyds’ Trevor Williams voted for a cautious expansion in QE, with Redwood declaring: “The time has come to launch QE.”

But both economists have rowed back from that position, attributing their revised opinions to the UK’s surprisingly strong GDP growth figure for the third quarter. The Office for National Statistics’ preliminary estimate of the UK’s growth came in at 0.8 per cent versus consensus of 0.4 per cent, in part due to unexpectedly strong construction sector growth.

With the consumer price index for September at 3.1 per cent, the additional concern of above-target inflation makes QE unpalatable for the majority of our shadow MPC.

Both City A.M.’s Allister Heath and Henderson’s Simon Ward have retained their hawkish stance to raise rates 25 and 50 basis points respectively. Heath’s position has hardened due to recent global PMI surveys exceeding expectations while Ward remains concerned that “a coming inflation spike threatens to de-stabilise inflationary expectations unless the Bank acts”.

Ward’s anxiety about inflation echoes that of Andrew Sentance, the lone hawk on the MPC who has been voting for a 25-basis point rise in interest rates since June. Last month saw the first three-way split at the Bank, with Adam Posen breaking ranks to vote in favour of restarting QE.

The shadow MPC’s decision comes as the US Federal Reserve announced that it would resume its asset-buying programme by purchasing $75bn’s (£46.6bn) worth of treasuries every month until next June for a total of a further $600bn of QE.

The MPC’s minutes, to be published in three weeks, will provide a breakdown of the Bank’s decision.

“Even more so than during the last few months, I am convinced rates must go up immediately by a quarter point. The economy is growing reasonably well, the PMIs are up and the velocity of money has risen.”

Raise the rate to one per cent. A coming inflation spike could de-stabilise expectations unless the Bank acts. Monetary conditions remain loose: officials are misreading the data by ignoring a trend shift in velocity.

“With growth stronger than expected and inflation still above target, further QE seems unwarranted at present. Equally, the outlook remains uncertain enough to suggest against higher rates right now.”

“Real GDP growth and inflation are stronger than they expected and long-term inflation expectations are rising. If the Bank expands QE, markets will assume the inflation target is being downgraded.”

vicky redwood | capital economics
“Given the stronger tone of the activity data over the past few weeks, a no-change decision – but with a bias towards more loosening should the recovery lose more momentum – seems sensible.”

“The Bank is walking a tightrope and should ask for the funds to do further QE, but only when economic conditions warrant it. In the meantime, rates should remain on hold.”

“I have a neutral stance – hold on QE and interest rates. The latest data and surveys have pointed to surprisingly resilient economic activity but there remains a significant risk of a marked slowdown in activity.”

“There should be no change this month. The initial third-quarter GDP figures confirm that the recovery has not petered out. More QE may be needed next year – but at this stage this looks unlikely.”

“Our view is that the second and third-quarter bounce will level off, leading to a square root-shaped cycle. Money supply growth is too weak to be confident of a sustained recovery without further QE.”