There was something entirely fitting about the first monetary policy committee decision and post decision press conference held by the new Bank of England governor Mark Carney on Thursday July 4th. Firstly, most of the assembled journalists and analysts were left in no doubt that from here on in the MPC, the monetary policy commission – the independent body set up by the former government to distance both the government and the BOE, has a limited remit. Moreover you got the sneaking suspicion that over the course of Carney’s first five year term the MPC will eventually be dismantled and any decision will be his and his alone. His assorted acolytes and apparatchiks, sitting on the stage at future meetings, will be reduced to mumblings and naval gazing at future press conferences, rather than daring to offer up opinions.
Secondly, the new governor did a ‘Ben Bernanke’, in as much as he tantalizingly suggested that come August, (as good a month as any), the BOE/MPC will look to increase monetary easing. The reaction was immediate, the UK FTSE rallied by over 200 points whilst sterling crashed. A cheaper pound equals more exports apparently, although seasoned FX traders and strategist know full well that major companies fix their future currency bets months in advance in an attempt to smooth out the crinkles of daily FX gyrations. And what was the collective opinion of the assembled financial press after Carney’s first broadcast? Thumbs up, apparently he did a good job.
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There was the odd dissenting voice; the former MPC member, Andrew Sentance, tweeted: “Inflation is set to rise, and BoE statement pours cold water on rate rises. Pretty dismal signal from MPC to Britain’s savers.” But no doubt his position as former member of the MPC will open him up to be classed as a “bitter former employee”.
It’s important that we don’t lose sight of the ‘coup’ Carney has engineered during his first major involvement in the UK economy, it was actually quite subtle and if you blinked you might have missed it. He’s aligned the UK banking policy with that of the USA Fed in a stroke. As an example he’s used ‘code’ to give a pointer as to where he’ll take both the UK’s fiscal and monetary policy over future months and years. In his “forward guidance” statement the translation could be that he’ll keep easing until a level of unemployment is reached, sounds familiar? That’s because Ben Bernanke did precisely the same with his determination to continue with unlimited quantitative easing until unemployment in the USA falls to 6.5%.
There was also another interesting twist as Carney held court, he introduced a phrase that will no doubt be repeated ad nauseum over the coming months – “forward guidance”.
What is forward guidance?
Under forward guidance, the Bank’s MPC will inform the markets in advance that it intends to keep the short-term interest rate at its current historically low 0.5% for a certain minimum period of time, or until certain conditions in the economy have been met – for example, a fall in the unemployment rate, or an increase in the UK’s GDP, its annual output.
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Forward guidance is a way of converting low short-term interest rates into lower long-term interest rates. The belief is that if the High Street banks can be convinced that they will be able to borrow overnight from the Bank of England at just 0.5% for many nights – indeed many months or years – to come, then they will hopefully be willing to lend money out to the rest of us for the longer term at a commensurately lower interest rate as well.
What the future holds for the UK economy from the standpoint of the BOE
The one blessing with regards to Carney’s introduction is that there was very little subterfuge, we’re left in no doubt as to his motives and the direction he’ll be taking the UK. Inflation is not a concern; the previous governor’s obsession with regards to inflation and him being answerable to the government for it will be a relic of the past. The value of sterling versus other currencies is irrelevant, it would appear that sterling crashing immediately after Carney held court was the result he set out to achieve. As each major economy and central bank eyes more easing the mutually assured destruction of private savings will be certain, whilst equity markets will rise exponentially.
Whilst Carney’s first actions won’t have hit the headlines investors/speculators/traders should be left in no doubt as to where sterling will be headed versus its major peers in the short to medium term. August 2013 should be a date pencilled in traders’ virtual diaries. If the BOE/MPC increase monetary easing at their August meeting we can expect fireworks, both sterling and the FTSE 100. And given Mark Carney’s insistence on forward guidance we can’t say we haven’t been warned.