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Janus Henderson: Why isn't the UK MPC easing?

The MPC should have cut Bank rate at its meeting last week. Monetary trends are worryingly weak, the global economy continues to slow and business confidence has fallen to a level historically associated with policy easing.

26.03.2019 | 15:02 Uhr von «Thomas Gräf»

On the latter point, the CBI yesterday released its first-quarter financial services survey, which echoed earlier industrial and business / consumer services surveys in reporting a plunge in optimism. The distributive trades survey, surprisingly, is still showing some resilience but it has often lagged the other sectors historically – see first chart.

UK CBI Business Optimism
UK CBI Business Optimism

The second chart shows a simple average of the optimism balances across the four surveys, along with Bank rate. At -28, the average is the weakest since the 2008-09 recession and similar to the level reached in 1998, during the Russian / LTCM financial crisis. The MPC has always eased policy when the average has fallen to -8 or below. (In 2011, easing took the form of additional QE rather than a Bank rate cut.)

UK Bank Rate vs Business Optimism
UK Bank Rate vs Business Optimism

The MPC is reluctant to admit that the August rate hike was a mistake and is using Brexit turmoil as an excuse to hold fire. This risks allowing a negative confidence / spending spiral to develop, requiring more substantial policy action later. The proximity of rates to the effective lower bound strengthens the case for the MPC to act pre-emptively. A rate cut could be reversed swiftly in the unlikely event of a smooth Brexit and subsequent economic bounce.​

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