Personal Investing
Ed Monk, Fidelity Personal Investing 21 Jun 2017 02:35pm

Four reasons why rates will remain low

SPONSORED FEATURE: Minutes from the Bank of England’s latest rate setting meeting surprised markets yesterday with three of eight members voting for a rise, compounding losses for UK shares this week in the process

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Caption: A 5-3 vote among rate setters was closer than anyone expected - but normalised monetary policy remains some way off.

The City had been anticipating a 7-1 split in favour of keeping the Bank rate at its low of 0.25%. The 5-3 result struck a decidedly more hawkish tone, and was the tightest call from the Monetary Policy Committee since 2011.

It was taken by markets as a signal that rates could rise sooner than expected, pushing the value of the pound higher and, in a pattern now familiar since the EU referendum last year, UK share indices lower.

Such a balanced vote amongst rate setters made money market assumptions of no rate rise until 2020 look badly out of step, but experts were quick to point out that this does not necessarily mean we are on a path back to more normal interest rate levels. Here’s why….

1. Changes at the MPC

The normally nine-strong committee is currently down to eight following the departure of Minouche Shafik earlier this year. Her replacement is yet to arrive and may or may not join the minority of hawks that incIude Ian McCafferty and Michael Saunders.

The third member to vote for a rise this time was Kristin Forbes, who will now leave the MPC having served her full three-year term. So there will shortly be one fewer hawks on the committee with two new members joining, suggesting the committee could become more doveish again after the changes.

2. The post-Brexit cut

The last interest rate movement was downwards - from 0.5% to 0.25% in August last year - and was made because the MPC had anticipated a hit to the economy after the vote to leave the European Union.

Economic data has been stronger than expected since then so there is an argument that this most recent cut was not, with the benefit of hindsight, justified. Some MPC members may soon be willing to reverse it but this does not mean they also see the case for a series of rises that would constitute a genuine change in monetary approach.

3. Uncertainties around inflation

The Consumer Price Index was confirmed as being 2.9% higher than a year ago just this week, a whisker from the 3% point that would force Bank Governor Mark Carney to write to the Chancellor explaining above-target price rises.

Higher-than-expected inflation is why the three hawks on the committee voted for a rise but the other members may need more persuading. Much of the inflation is down to the fall in the value of the pound that followed the June 2016 Brexit vote. That increased importing costs and pushed prices up as a result.

That effect will fall out of the year-on-year comparisons from about October and, all things being equal, that will bring the headline inflation rate downwards.

Additionally, wage rises and GDP growth are smaller than prices rises right now, suggesting consumer spending power is weak and unlikely to drive inflation higher.

4. Economic weakness

The MPC showed with its cut last year that it is very mindful that monetary policy must be supportive of economic growth as the Brexit process plays out. With still so much uncertainty about the final form that Brexit will take, members will likely be wary of increasing borrowing costs for households and businesses.

Ed Monk

Ed Monk

Ed joined Fidelity in 2016 following a 13-year career in newspaper journalism, most recently as investment editor at The Daily Telegraph. He was previously news editor and personal finance editor for Thisismoney.co.uk, the money channel for Mail Online and has contributed articles to the Daily Mail.

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