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By Christina Fincher
November's Bank of England meeting is shaping up to be the most crucial this year, but the growing number of investors betting on imminent UK monetary stimulus may be disappointed.
The BoE's track record since the start of the financial crisis has been to ease more aggressively than markets have expected. But it is possible that by talking dovish and keeping its powder dry, the BoE can get markets to aid the easing process without the risk of a potentially embarrassing policy mistake.
In the past two months, sterling has fallen more than 3% on a trade-weighted index and short-dated gilts have hit record lows. In April, markets were pricing in UK interest rates of 3.4% by the end of 2012. Now they are pricing in just 1.6%.
"Gilt yields have typically fallen more in anticipation of more QE than when it is announced," said Alan Clarke, UK economist at BNP Paribas. "The BoE is using this anticipation effect to the max."
Minutes to this month's BoE policy meeting showed that one policymaker, Adam Posen, vote to raise the QE total by 50 bln pounds. But the committee's most hawkish member Andrew Sentance reiterated his call for a quarter-point interest rate rise and the remaining seven members opted for the status quo.
Next month's rate decision — when BoE policymakers will have third-quarter GDP figures and new quarterly inflation forecasts — is a close call. A Reuters poll published on October 14 showed 11 of 22 economists expect the BoE to extend QE, with many earmarking November.
NO RUSH
While there is little doubt that Britain's central bank is more likely to loosen policy in the near term than tighten it, it is far less likely than the U.S. Federal Reserve to rush into it.
Inflation in Britain running well above target at 3.1% — almost three times the rate in the United States — and while the recovery outlook may have clouded, there is little sign Britain's economy has fallen off a cliff in quite the same way.
The fiscal tightening detailed by finance minister George Osborne on Thursday has been incorporated into the BoE's forecasting model for some time, and it is noticeable that several former MPC members — Rachel Lomax, Kate Barker, Charles Goodhart — have expressed unease about increasing QE, despite concerns over the recovery.
"For us the case for further quantitative easing is weaker now than it was three months ago, even if the markets think otherwise," said Ray Barrell at the National Institute of Economic and Social Research
UK economic growth in the first half of this year has beaten the BoE's expectations, and Barrell argues that the cost of waiting until the recovery picture becomes clearer is small compared with the cost of risking inflation with an unwarranted boost to QE.
