MPC may hint more support will be needed - Capital Economics
UK Economics

MPC may hint more support will be needed

MPC Watch
Written by Ruth Gregory

We expect the Monetary Policy Committee (MPC) to vote unanimously to keep interest rates on hold at +0.10% on Thursday 6th August and to continue with, but not extend, quantitative easing (QE). But the Committee may also send a signal that more monetary policy stimulus will be needed at some point. It could also revise down its estimate of the effective lower bound from +0.10% to a little below zero, leaving the door open to negative rates.

  • The MPC is unlikely to expand QE before November
  • But it may signal that further stimulus will be needed at some point
  • It could revise down the effective lower bound, leaving the door open to negative rates

We expect the Monetary Policy Committee (MPC) to vote unanimously to keep interest rates on hold at +0.10% on Thursday 6th August and to continue with, but not extend, QE. But the Committee may also send a signal that more monetary policy stimulus will be needed at some point. It could also revise down its estimate of the effective lower bound from +0.10% to a little below zero, leaving the door open to negative rates.

After having cut interest rates to +0.10% and expanded QE by £200bn in March and then by a further £100bn in June, the MPC made it clear six weeks ago that it thought it had done enough for now to support the economy. And we do not think the MPC’s position will have changed for three reasons.

First, despite the rise in virus numbers in the US and Spain, the financial markets have generally been well behaved. So its actions are now less about acting quickly to prevent a financial crisis and more about hitting the inflation target further ahead. Second, while the Bank will be watching the economic data and daily UK Covid-19 infection figures closely, there is nothing obvious to suggest an immediate need to add to the considerable monetary stimulus it has already put in place. And third, the Bank’s existing QE programme is set to continue until “around the turn of the year”.

So we don’t think the Committee will announce any changes to its QE programme in August. Nor do we think that anybody will be itching to pull the negative interest rate trigger. Instead, we suspect that the MPC will take more time to consider its options and to assess whether the economy needs an extra boost to raise CPI inflation back to the 2% target.

That is not to say that there won’t be a difference of opinion amongst MPC members. We would not be too surprised if Jonathan Haskel (the member who appears most worried about the recovery), suggests that he prefers more stimulus sooner. At the other end of the spectrum, having voted against more QE in June, Andy Haldane may express a desire to hold off for longer. But we expect the MPC to vote unanimously not to extend QE in August.

Bank’s forecasts to suggest more QE will be needed

Even so, the Bank’s forecasts are likely to hint that more stimulus will be needed at some point. Because of the elevated uncertainty the MPC dropped its usual forecasts in May and instead used an “illustrative economic scenario”. We have no special insight, but in August the Bank could either do the same, publish various scenarios, or move to an actual forecast.

Regardless of how it is badged, we expect four main changes to the projections. First, the size of the fall in GDP in Q2 may be smaller than the Committee had previously expected (20% versus 28%) and the subsequent rebound in Q3 may be stronger (14% versus 13%).

Second, given the success of the government’s job furlough scheme, the Bank may judge that the unemployment rate will peak later and at a lower rate compared with its previous expectation of a rise to 9% by Q2.

Third, the Bank’s expectation for inflation is likely to be lower in Q3 (-0.1% versus +0.4%) and then higher in Q4 2021 (+1.5% versus +1.0%) compared to that presented in May, reflecting the Chancellor’s recent tax changes. (See here.)

Finally, beyond these near-term changes, the biggest difference could be the inclusion of a greater degree of economic scarring. Even back in May, some MPC members did not seem to believe the illustrative scenario which did not include any scarring effects. And the multitude of comments by MPC members over the past month have suggested that nearly all think the balance of risks are on the downside. As such, we suspect that the Bank will cut its medium-term GDP projections towards our own. That would send a signal that more policy action is needed. (See Chart 1.)

Chart 1: Real GDP (Q4 2019 = 100)

Sources: Capital Economics, BoE

Minutes support further action

The minutes accompanying the policy decision may also provide further hints that more support will be required. The least to expect is the MPC reiterating that it stands “ready to take further action as necessary to support the economy and ensure a sustained return of inflation to the 2% target”. But it may choose to strengthen that by saying something like “asset purchases will continue until the recovery is well underway”, which would be similar to the language the Bank of Canada recently adopted.

There are a few other possible wildcards to watch for. First, any signs that the MPC is getting closer to negative interest rates. The MPC is already revisiting the merits and drawbacks of such a policy. And market expectations for a cut into negative territory have been building. We suspect a definitive announcement won’t come until the conclusion of the Bank’s review, perhaps later in the year. But the MPC may lower its estimate of the zero-lower bound, perhaps from +0.10% to a little below 0%. That would further nudge open the door to negative rates.

Second, whether the Bank takes the opportunity to introduce explicit forward guidance on the future path of interest rates. For example, the MPC might suggest that it will leave rates at near-zero until “the 2% inflation target has been sustainably achieved”. Outgoing Bank Governor, Mark Carney, has previously suggested that “such an approach could be accommodated within the flexibility of current inflation targeting frameworks”. That would suggest the MPC is willing to keep policy loose even when inflation rises to 2%.

When will the next step-up in QE be?

As for when the MPC might loosen policy again, we doubt the Committee will pause for too long. We think that £100bn more QE will be announced on 5th November, a further £100bn on 6th May 2021 and £50bn on 4th November 2021. (See Table 1.) That would take the stock of asset purchases to just below £1 trillion, far more than the consensus currently expects.

Meanwhile, when the time comes to withdraw monetary stimulus, Bank Governor Andrew Bailey has suggested that it might be “better to consider adjusting the level of reserves first without waiting to raise interest rates”. (See Table 2.) But given our view that it will be at least five years before the Bank gets close to raising interest rates above +0.10%, the MPC will have plenty of time to think about it! (See here.)

Table 1: MPC Meeting Outcomes & Forecast

Date

Rates

QE

Date

Rates

QE

30th Jan. 2020*

0.75%

4th Feb. 2021*

0.10%

11th Mar. 2020 (Emergency meeting)

0.25%

18th Mar. 2021

0.10%

19th Mar. 2020 (Emergency meeting)

0.10%

+£200bn

6th May 2021*

0.10%

+£100bn

26th Mar. 2020

0.10%

24th Jun. 2021

0.10%

7th May 2020*

0.10%

5th Aug. 2021*

0.10%

18th Jun. 2020

0.10%

+£100bn

23rd Sep. 2021

0.10%

6th Aug. 2020*

0.10%

4th Nov. 2021*

0.10%

+£50bn

17th Sep. 2020

0.10%

16th Dec. 2021

0.10%

5th Nov. 2020*

0.10%

+£100bn

17th Dec. 2020

0.10%

Sources: Bank of England, Capital Economics. *Denotes publication of Monetary Policy Report.

Table 2: Summary of MPC Members’ Views (Members ordered from most dovish to most hawkish)

Member

Term End

Previous Vote

Past Non-Consensus Votes

Recent Key Comments

Michael Saunders
(External Member)

Aug. 2022

Rates: 0.10%

QE: £745bn

Voted to increase QE by £100bn in May.

Voted to cut rates in Nov.

and Dec. 2019.

“It is safer to err on the side of easing somewhat too much, and then if necessary tighten as capacity pressures eventually build, rather than ease too little.”(Webinar, 28th May.)

Jonathan Haskel
(External member)

Sep. 2021

Rates: 0.10%

QE: £745bn

Voted to increase QE by £100bn in May.

Voted to cut rates in Nov.

and Dec. 2019.

“I am concerned about the economy getting stuck and recovering only slowly and undershooting the inflation target,” (Speech, 23rd Jul.)

Gertjan Vlieghe
(External member)

Sep. 2021

Rates: 0.10%

QE: £745bn

Voted to cut rates in Jul. 2016, while the other 8 members voted to keep rates on hold.

“The MPC has decided to expand the Bank of England’s balance sheet, because we believe that if we do not, the economy will weaken further such that we would fall short of our inflation target.” (Webinar, 23rd Apr.)

Silvana Tenreyro
(External member)

Jul. 2023

Rates: 0.10%

QE: £745bn

None.

“My central case forecast is for GDP to follow an interrupted or incomplete ‘V-shaped’ trajectory, with the first quarterly step-up in Q3… But I think that this will be interrupted by continued risk aversion and voluntary social
distancing in some sectors, remaining restrictions on activities in others, and in general, by higher unemployment.” (Speech, 15th Jul.)

Sir Jon Cunliffe
(Deputy Governor – Financial Stability)

Oct. 2023

Rates: 0.10%

QE: £745bn

Voted against raising rates in Nov. 2017.

“Given the economic hit – a very deep synchronised hit to the global economy – we can expect very significant losses on credit to firms and households.” (Webinar, 9th Jun.)

Andrew Bailey
(Governor)

Mar. 2028

Rates: 0.10%

QE: £745bn

None.

“When the time comes to withdraw monetary stimulus, in my opinion it may be better to consider adjusting the level of reserves first without waiting to raise interest rates on a sustained basis.” (Op-Ed for Bloomberg, 22nd Jun.)

Ben Broadbent
(Deputy Governor – Monetary Policy)

Jun. 2024

Rates: 0.10%

QE: £745bn

Voted against QE extension in Jul. 2012.

“With risks still to the downside, it’s quite possible that more monetary easing will be needed over time.” (CNBC interview, 12th May.)

Sir Dave Ramsden
(Deputy Governor – Markets & Banking)

Sep. 2022

Rates: 0.10%

QE: £745bn

Voted against raising rates in Nov. 2017.

“It is perfectly reasonable to have an open mind on cutting rates below zero” (Interview with Reuters, 28th May.)

Andy Haldane
(Chief Economist)

Jun. 2023

Rates: 0.10%

QE: £645bn

Voted against QE extension in Jun. 2020.

Voted to raise rates in Jun. 2018.

“My judgement on the balance of these risks led me to vote to maintain the monetary stance rather than loosen it further. I judged the upside news in demand since our previous meeting in May to have outweighed the negative news to the UK’s economic outlook.” (Speech, 30th Jun.)

Sources: Bank of England, Bloomberg


Ruth Gregory, Senior UK Economist, +44 7747 466 451, ruth.gregory@capitaleconomics.com