Market view: No ‘immediate need’ to raise bank rate

Conditions are improving rapidly in the labour market, marking a fall in the three-month average unemployment rate from 7.4 per cent in October to 7.1 per cent at the end of November, data from the Office for National Statistics has revealed.

This means the unemployment rate is only slight above the 7 per cent threshold in which the 0.5 per cent interest rate could be increased.

In August last year, Bank of England governor Mark Carney announced the rate would remain at the historical low level until 2015.

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But in his forward guidance, Mr Carney said if unemployment dropped below 7 per cent, or if there were changes to CPI inflation or a threat to the country’s long-term financial stability, the rate was subject to change.

The recent drop in unemployment rate is “lower than anticipated”, economists said.

Adrian Lowcock, senior investment manager at Hargreaves Lansdown, added the speed in which unemployment has fallen has “caused markets to anticipate interest rates will rise sooner than Mark Carney suggested in his forward guidance, possibly as early as the end of 2014”.

He said: “Government bonds yields rose to 2.89 per cent from 2.83 per cent in response to the announcement.

“We think it is unlikely interest rates will rise this year. Inflation has been falling and therefore there is little pressure to raise interest rates.

“The economic recovery remains fragile and Carney must be mindful that a rise in interest rates would push up borrowing costs, including mortgage interest payments. Investors should be prepared for interest rates to remain lower, probably into 2015.”

Samuel Tombs, UK economist at think-tank Capital Economics, emphasised recent Monetary Policy Committee minutes explicitly noted there was no “immediate need” to raise bank rate even if this threshold is met in the near future.

It was also suggested the improvement in the labour market figures may overstate the degree to which conditions have tightened, Mr Tombs said.

He said: “As a result, we think that there is a strong chance that the committee will alter its forward guidance alongside next month’s Inflation Report in order to provide the recovery with more support.”

Meanwhile, December’s public finance figures showed borrowing is falling broadly in line with the fiscal plans, Mr Tombs said.

He said: “Net borrowing, excluding the temporary effects of financial interventions and the Royal Mail and APF transfers, was £12.1bn in December, £2.1bn lower than the figure recorded a year ago.

“December’s deficit takes underlying borrowing in the fiscal year to date to £96.1bn, almost 5 per cent down on the same period in 2012 to 2013. Given that the OBR forecast underlying borrowing to fall by 3 per cent this year, the fiscal squeeze is on track, for now.”

Ian Kernohan, economist at Royal London Asset Management, added to keep ahead of market expectations, the MPC will again have to explain why 7 per cent is not a trigger for an interest rate rise “and merely a way station for a discussion about the possibility of a policy change”.