Bank of England Governor Mark Carney can now look to Janet Yellen for a lesson in hiking rates.
While most economists predict U.K. officials will keep their key rate at a record low until the middle of next year, the Federal Reserve’s decision to begin tighteningoffers insight on preparing markets and signposting future plans. As Fed Chair Yellen oversaw the first increase in U.S. interest rates in almost a decade, she simultaneously signaled the pace of subsequent moves will be “gradual,” a word Carney has used extensively in his own communications.
Improving labor markets and resilient growth prompted speculation earlier this year that both the U.S. and U.K. were heading toward tightening, a sign of the end of the financial crisis. But with Britain vulnerable to an international slowdown and consumer-price growth near stagnant, Carney has signaled he’s in no rush to follow his American counterpart.
“Clear communication and the way the market had pretty much fully priced in the rate hike meant that money markets had moved ahead of the actual Fed decision itself,” said Azad Zangana, an economist at Schroders Investment Management in London. “Hopefully the Bank of England has been paying attention.”
Communication Issues
While Wednesday’s Fed move draws a line under an unprecedented period of record-low rates, both Yellen and Carney have struggled to deliver clear messages to investors, consumers and companies. Volatility indexes whipsawed in September when the Fed backed away from tightening and a U.K. lawmaker has labeled Carney an “unreliable boyfriend” for his mixed signals on the outlook for BOE policy.
With the U.S. now in tightening mode and the European Central Bank buying assets to boost a flagging economy, Carney now has to navigate a widening divergence in global monetary policy. In the euro-area, which accounts for about half of U.K. trade, ECB stimulus has put downward pressure on the euro against the pound, potentially hampering British exports.
Economists surveyed by Bloomberg forecast no U.K. rate increase until the second quarter of 2016, with investors anticipating an even longer wait. Forward contracts suggest that a full 25 basis-point increase in the BOE’s key rate won’t come until February 2017.
Policy Divergence
“We’re sitting between a fragile Europe, therefore a loosening ECB, and a stronger U.S. and a tightening Fed,” said George Buckley, an economist at Deutsche Bank AG in London, who forecasts the BOE will increase its key rate in May. “It’s reasonable to think that the BOE does something in between those two major export markets.”
Yellen tempered the Federal Open Market Committee’s decision to increase the range for the fed funds rate with comments the move was very small and that policy makers want to move “early and gradually.” That may give comfort to BOE officials who have said they want to see stronger domestic price pressures before tightening and that, once they start, increases will be “limited and gradual.”
Not all U.K. officials agree, Ian McCafferty has voted for an increase for the last five months, saying the potential for domestic cost growth to build justifies an immediate increase.
Falling Oil
“Higher U.S. interest rates give the Bank of England the flexibility to start normalizing,” said James Sproule, chief economist at the Institute of Directors in London. “The MPC must look past this temporary period of low inflation and act soon.”
For now, a slide in oil prices and subdued wage growth mean the BOE is forecasting inflation will stay below 1 percent until the second half of next year, giving them room to keep its rate at 0.5 percent. In the minutes of their December meeting, the MPC said there was “no mechanical link” between U.K. policy and that of other central banks and said rates “would be determined ultimately by the inflation outlook here.”
In her hour-long press conference on Wednesday, Yellen also emphasized that the inflation outlook was key to the Fed’s policy path as she used the word “gradually” or “gradual” about a dozen times to describe the pace of future rate increases. The quarter-point increase in borrowing costs was the culmination of a yearlong effort to prepare for the end of ultra-easy money.
“They wouldn’t say it, but the BOE will be happy not to be the first guys raising rates and have the ability to wait and see what the impact on markets is,” said Dominic Bryant, an economist at BNP Paribas SA in London who forecasts the U.K. will raise rates six months after the U.S. “To the extent that the global economy is soft, you may expect the BOE will lag a bit more than normal.”
To contact the reporter on this story: Scott Hamilton in London at shamilton8@bloomberg.net To contact the editors responsible for this story: Paul Gordon at pgordon6@bloomberg.net Emma Charlton, Fergal O'Brien
