Having led a whole audience of market watchers into believing that the Bank of England’s Monetary Policy Committee (MPC) was about to sanction its first base rate rise since 2017, governor Andrew Bailey could not have been surprised at the jeers he received when it didn’t. Instead, when the MPC met last week, the base rate was left unchanged at 0.1 per cent (by a vote of 7 to 2).
Like Chancellor Rishi Sunak, Bailey is relatively new to his job, having arrived from city watchdog the FCA in March 2020. Like Sunak he now faces the complex post-crisis task of helping the economy transition back to 'normal'. Both have a lot on their plates besides their core roles: certainly the remit of central banks now extends far beyond setting interest rate policy and keeping a lid on inflation. They are required to address wider issues such as climate change, cryptocurrencies, the pandemic and, in the UK, Brexit.
But unlike Sunak, Bailey arrived at his new post with criticisms ringing in his ears – the FCA under his watch had messed up time and time again, from the collapse of mini bond seller London & Capital Finance and the failure to protect British Steel workers’ pensions to the Neil Woodford disaster. Nevertheless none of this is evidence that Bailey is not showing leadership at the bank or that the committee is not making the correct decisions.
The decision to leave base rates unchanged gave equity and bond markets a boost (although not the pound) but there are plenty of people who want to see the Bank turn its guns on inflation before we reach a point of no return and it spirals dangerously out of control. Against that however the MPC takes many factors into consideration. Quite sensibly, given the furlough scheme has only just ended, the MPC wants to wait for additional information on the jobs market before agreeing on the risks to upward pressure on wages. Other considerations are the government’s toughening stance on fiscal policy, the fragility of the economic recovery – officials at the Bank now think the economy will only grow 1 per cent in Q4 2021, and they have also cut their forecasts for growth next year too – and inflationary drivers. If these are temporary – as soaring energy prices may well prove to be - then inflation will be too. And if the drivers are external, such as the supply chain problems, then, as Bailey himself commented, these causes cannot be controlled by local monetary policy.
As Laith Khalaf at AJ Bell points out, the bank’s judgement that inflation is transitory "hasn’t really been tested yet, as it’s only been six months that the CPI has now been marginally above target. Although inflation is now predicted to peak at 5 per cent next April the data is notoriously unreliable at the moment".
In fact the MPC highlighted that if energy prices fall back, CPI inflation could be just 1.7 per cent in three years’ time. Of course, against this there is the real risk that new policies designed to reduce pollution will lead to permanently high energy prices.
The MPC can't help but take account too of the impact of a rate rise on government costs and on ordinary borrowers. In the same way that inflation expectations can exacerbate the problem, so a rate rise can trigger spiralling responses in expectations of further rises to come.
It will also be watching other central banks. Federal Reserve chairman Jerome Powell believes there is time to be patient on raising rates (there was no rate rise in the US either last week), although the Fed has agreed the time is right to begin tapering its asset purchase programme, which it will wind down fully by mid 2022. However the US also has a President intending to spend $3.5tn (£2.59tn) to fire up its economy.
The next MPC meeting is on 16 December but don’t expect a rate rise then either. Given the low for longer messaging, the base rate may only be at 0.5 per cent by this time next year.