FROM CANADA WITH LOVE: BOE PREVIEW - BERENBERG MACRO VIEWS
- No policy change this month: It is too early for new Governor Mark Carney to push through changes. But we expect the Canadian to deliver North American-style rate guidance in August.
- Economy looking brighter: The firmer data tone has continued. Business surveys point to another quarter of respectable growth in Q2. House prices are rising and consumer confidence has improved.
- Nascent recovery could easily fade: Households remain under severe pressure as inflation runs ahead of wage growth. Disposable income fell sharply in Q1. Austerity continues apace. We expect growth to sag later this year as households succumb to weak income.
- Risks from a rise in yields: Extremely low market rates have been encouraging consumption and house prices, so the 80bp rise in gilt yields since early May could easily deal a blow to the economy.
- Aim for policy now is to dampen the rise in yields, so the nascent recovery continues. The UK can and will recover more decisively in 2014, provided monetary conditions remain extremely loose. Falling inflation and rising house prices should drive solid consumption.
- We expect Fed-style guidance in August, when the BoE reports on the merits of the policy.
- Carney is keen: As we outlined in Britain needs help, published on 29 May 2013, Carney has been clear about his belief in guidance. He seems unwilling to accept meagre growth. Even with the positive recent data, growth is not strong enough to lower spare capacity.
- Caution to be the watchword: The BoE has eight other policymakers individually accountable for their position. A majority have been voting against further stimulus. The hurdle for winning over sceptics has probably fallen recently with the rise in yields. Still, guidance will have to be relatively cautious to get everyone on board.
- Get-out clauses needed: We see a two-thirds chance of a formal commitment to keep rates low until clearly specified conditions are met. But easy get-out clauses would be needed to satisfy the hawks. For example, keep rates low until conditions are met, as long as inflation is forecast to be close to the 2% target in 2-3 years. That would give policymakers a way to vote for ending the policy.
- Specific thresholds could be a step too far: So we see a one-third chance of a face-saving alternative, like publishing a rate forecast.
- Backed by more asset purchases: We expect rate guidance to be backed by more asset purchases, but lower our expectation to an initial £25bn in August, which could be topped up after three months.
- Guidance could be powerful: It can protect against premature rate rises being priced in. And it can convince Joe Public that rates will stay low.
Chief UK Economist
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