The era of historically low interest rates won’t last forever, and the latest forecasts and comments from the Bank of England hint that a tightening of monetary policy may come sooner rather than later. Stephen Phipson reads the runes.
Over the past decade since the financial crisis, manufacturers have enjoyed an unprecedented era of low interest rates.
Last month, the Bank of England announced its latest monetary policy decision of 2018 and, while there weren’t many surprises from Threadneedle Street – with interest rates remaining on hold at 0.5% and growth forecasts revised up only marginally – we may not have to wait long for the next hike or two.
So, why the change in prospects? First, the economy is performing reasonably well, and the Bank has raised its growth forecasts for both this year and next.
On the other hand, business investment, while growing, is set to remain weak as Brexit uncertainty continues to take hold.
The Bank highlighted this in its Inflation Report using our own Investment Monitor data, where we found that just under half of manufacturers’ investment plans were being negatively impacted by Brexit.
Meanwhile, consumption is also forecast to grow at a slower rate than the economy as a whole, as households adjust to weak growth in their real incomes and elevated price levels.
This is all occurring against a backdrop of political and economic uncertainty, which is likely to be ramped up, the closer we get to the 2019 EU-leave deadline.
This article first appeared in the March issue of The Manufacturer magazine. To subscribe, please click here.
Therefore, while the economy is growing, we are not enjoying the global upturn to the same extent as our international counterparts.
With the economy moving along at a steady speed, and the Bank stating that very little slack remains in the economy on the back of a strong labour market, attention has turned to inflation, and the ability of the economy to grow without generating inflationary pressures.
The latest inflation data saw the CPI fall to 3%, with an expectation that it would steadily fall throughout the year as the effect of sterling’s depreciation became exhausted.
Since November however, the rise in oil prices, and associated rise in energy and fuel prices has meant the Bank’s near-term inflation projections have risen.
These external cost pressures are set to be boosted, as domestic cost pressures firm up, with wages finally expected to see some significant upward movement.
The peak in inflation, therefore, may not be behind us, and the governor noted that prices could rise back up through this year.
Time for a rate rise?
The hawkish tone evident throughout the minutes and Inflation Report, combined with inflation’s higher than anticipated trajectory, would suggest that a rate hike is perhaps closer than we may have previously anticipated, with a tightening in August or May looking likely.
How the data evolves over the coming months – in particular wage data from the January pay round, which is the biggest month for manufacturing settlements – will be key in determining this.
As far as manufacturers are concerned, a small hike or two may not make a significant difference to investment plans given rates would still be at historically low levels.
However, the impact on the level of the pound and, in particular, the exchange rate volatility it would bring may tell a different story.