September 20, 2011

Bank of England Policy Minutes and Public Finances Headline UK Economic Releases for the Week Commencing 19 September

Published: 9/16/2011

Of key interest in the minutes of the Bank of England's September Monetary Policy Committee meeting will be whether or not any member joined Adam Posen in voting for more quantitative easing. The ongoing stream of weak UK economic data, a worrying global economic outlook, and heightened financial market turmoil is exerting ever more pressure on the Bank of England to take stimulative action, and to do so sooner rather than later.

Minutes of the September Bank of England MPC Meeting

The main focus of Wednesday's release of the minutes of the Bank of England's September Monetary Policy Committee (MPC) meetingwill be whether the committee members are moving towards more quantitative easing (QE).

An interest-rate increase is clearly off the agenda for a long time, given the current weakness of the economy and the worrying domestic and global growth outlook. This is trumping the Bank of England's concerns over current well-above-target and rising consumer price inflation. This was highlighted by the fact that the two MPC members (Martin Weale and Spencer Dale) who had been voting for a 25-basis-point interest-rate increase to 0.75% switched to the "no change" camp in August with the result that all nine MPC members favoured keeping interest rates down at 0.50%.

This 9-0 vote for unchanged interest rates was undoubtedly replicated at the September MPC meeting, given that both domestic and global economic developments since the August meeting have been largely troubling.

In fact, even though consumer price inflation (which rose to 4.5% in August from 4.4% in July) could well reach 5.0% in the near term because of soaring utility bills, the MPC is likely to view current weakened growth prospects as increasing the possibility that consumer price inflation will undershoot its 2.0% target rate over the medium term (as the upward impact of past value-added tax (VAT) hikes, sharp rises in oil and commodity prices, and sterling's past devaluation wanes and underlying price pressures are held down by a significant output gap, below-trend growth, and muted wage growth amid substantial and now rising labour market slack). Consequently, we suspect that interest rates are unlikely to rise before 2013.

The only question now on policymakers' minds is, should they try and stimulate the economy through enacting QE for the first time since February 2010?

To that end, of key interest in the minutes of the September meeting will be, did any other MPC members join Adam Posen in favouring more QE? The minutes of the August MPC meeting indicated that some MPC members were increasingly thinking of voting for more QE, but did not yet believe the case was strong enough. Another month of weak UK economic data and surveys, and ongoing global financial market turmoil, could well have led at least one MPC member into joining Adam Posen. If more than one MPC member joined Mr. Posen, it will point to a very real chance of QE occurring as early as October. We now lean towards the view that another £50 billion of QE is likely before the end of the year, taking the total up to £250 billion.

Public Finances in August

The public finances data for August (out on Wednesday) are expected to show modest improvement compared with a year earlier. Specifically, we expect the Public Sector Net Borrowing Requirement (PSNBR) excluding financial interventions to have narrowed to a still very nasty £12.2 billion in August from a shortfall of £14.4 billion in August 2010.

A modest year-on-year (y/y) improvement in the public finances is expected as a result of January's VAT rise and other fiscal measures increasingly kicking in from April. In particular, the spending cuts should increasingly show up in the public finance figures.

However, the improvement in the public finances is likely to be limited by the economy's current softness hitting tax revenues and pushing up unemployment benefit claims. In July, the PSNBR (excluding financial) showed a surplus of £20 million compared with a deficit of £3.5 billion in July 2010. This helped the public finances to show modest improvement y/y in the first four months of fiscal year 2011/12 (April–July). Specifically, the PSNBR (excluding financial market interventions) edged down to £45.4 billion in the first four months of 2011/12 from £47.4 billion in the first four months of 2010/11.

Despite modest overall improvement during the first four months, the current weakness of the economy, and the worrying outlook, is leading to major doubts as to whether Chancellor George Osborne will be able to achieve his target of reducing the PSNBR excluding financial interventions to £122 billion in fiscal year 2011/12 from the 2010/11 outturn of £142.6 billion. The Chancellor's 2011/12 PSNBR target of £122 billion is based on the economy growing by 1.7% in 2011 and by 2.5% in 2012. It is widely accepted that these growth forecasts are far too optimistic and there is particularly no chance that the 2011 projection will be met. IHS Global Insight expects GDP growth to be 1.0% in 2011 and 1.5% in 2012.

The government is currently making it clear that it will not ease back on its fiscal squeeze to give the economy a near-term boost. The government argues that the repercussions of doing in terms of undermining market confidence in the United Kingdom this would outweigh any gains.

At the very least though, we expect the chancellor to accept some slippage in his near-term fiscal targets rather than tighten policy further to meet them due to concern that more spending cuts and/or tax hikes will weigh down additionally on already limited growth prospects. There is in fact some leeway for the chancellor on his fiscal targets as he is committed to reducing the structural budget deficit by 2015/16, yet he is actually aiming to achieve this by 2014/15.

CBI Industrial Trends Survey for September

We expect the Confederation of British Industry (CBI) industrial trends survey for September (out Thursday) to have weakened anew, after showing surprise improvement in August that was at odds with most of the latest news on the manufacturing sector. Specifically, we forecast the balance of manufacturers reporting that their orders are at normal levels to have fallen back to -7% in September after rallying to +1% in August from a three-month low of -10% in July. This is expected to be the consequence of a softening in both domestic and foreign demand. Even so, this would still be above the long-term average for the balance of -18%.

We also expect the September CBI survey to reveal that manufacturers are less optimistic about their near-term production prospects and that fewer of them are expecting to raise their domestic prices over the next three months in the face of weakened demand and some easing back in input piece pressures from the peak levels seen earlier this year.

Manufacturers are plainly now finding life much more challenging as domestic demand is held back by serious headwinds notably including tightening fiscal policy and the serious squeeze on consumers' purchasing power, while weaker global growth is limiting export orders. Meanwhile, although they have come off their highs, elevated input costs are still a problem for manufacturers.

By Howard Archer

21 Sep - Bank of England Monetary Policy Committee interest rate vote split, September (Hike-Unchanged-Cut): 0-9-0
21 Sep - Bank of England Monetary Policy Committee Quantitative Easing vote split, September (More-Unchanged-Reduced): 2-7-0
21 Sep - Public Sector Net Borrowing Requirement, August (GBP/Bln): 12.2
22 Sep - CBI Industrial Trends, Total Orders, September: -7%

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