InvestmentsOct 22 2014

Market View: Economists push back rate hike expectations

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Economists are split as to when the Bank of England will raise the historically low 0.5 per cent interest rate, but a consensus is emerging that a combination of the anaemic global recovery and weak demand will push any increase back, potentially until late 2015.

Minutes of the October Monetary Policy Committee meeting revealed today (22 October) that the committee was split for the third consecutive month over whether to increase rates, with seven members voting to hold while Martin Weale and Ian McCafferty both voted for an immediate rise.

The two hawkish members cited the rapid reduction in spare capacity that has occurred in recent months, but concerns over below-target inflation and the global economy continued to sway the majority.

Here we give the view of three economists on when they think rates will rise.

Alasdair Cavalla, economist at the Centre for Economics and Business Research

Expectation: November 2015

Mr Cavalla said: “The majority of the MPC voted to maintain low rates on the basis that despite the recovery, consumer price inflation continues to fall.”

The September rate was 1.2 per cent and central banks around the world are “now more worried about low inflation or deflation than rising prices”, Mr Cavalla added. Even the BoE inflation report in August did not foresee inflation reaching the target of 2 per cent until 2017.

As a result of the global economy’s “gloomy” outlook, commodity prices have fallen and may fall more, meaning that the rate of inflation is in “real danger of going too far under target in the near term”, Mr Cavalla continued.

The Bank of England’s margin around the central target is a percentage point either side, meaning that inflation could easily fall below the lower end of the range.

Mr Cavalla said: “Cebr expects the first rise in interest rates to come in November 2015. The UK’s recovery will continue amid a low-inflation environment, giving the Bank of England room to keep rates low.

“Given the downside risk posed by eurozone weakness, it is important to prop up domestic demand to ensure the UK’s recovery.”

Ben Brettell, senior economist at Hargreaves Lansdown

Expectation: Post-summer 2015

Mr Brettell added that last month’s fall in inflation “which the MPC would have seen at the time of their meeting, despite the figure not being publicly released until afterwards” underlines the case for leaving interest rates on hold.

He said: “The minutes note ‘little sign of future inflationary pressure’, and indeed inflation is forecast to fall further in the coming months.”

“It looks increasingly likely the chancellor will be receiving a letter from Mark Carney in the near future explaining why it has dipped below 1 per cent.

“Furthermore the prospect of recession in the eurozone – our largest export market – poses a severe threat to the UK’s recovery.

“Given the weakening outlook for global growth and the absence of inflationary pressure (both in prices and wages), I can’t see the logic in voting for higher rates at present. I expect them to remain on hold until mid-2015 at the very earliest, and possibly not rise until much later in the year.”

Samuel Tombs, senior UK economist at think-tank Capital Economics

Expectation: May 2015

Mr Tombs said dissenters Mr Weale and Mr McCafferty emphasised that low inflation was largely the product of lower import and commodity prices and that the rapid reduction in labour market slack means inflation risks overshooting the target in the medium term if rates did not rise soon.

In addition, the hawks seem to have become more concerned that the low level of bank rates risked unbalancing the recovery, he added.

In contrast, the majority appear to have become more concerned that the “further downside news in the euro-area had increased the risks to the durability of the UK expansion” and argued that there was “insufficient evidence of prospective inflationary pressure”.

Mr Tombs said: “And with the eurozone’s malaise unlikely to right itself quickly and inflation set to ease further over the coming months, it is hard to see what will trigger the MPC to raise interest rates over the next few months.

“Accordingly, while we maintain our view that bank rate is likely to rise to only 1 per cent by the end of next year, we now think that May rather than February is the most likely date for the first hike.”