Bank of England Tipped for May Rate Hike as Bank Chief Warns of Market Volatility…

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A week before the Bank of England’s next MPC meeting, UBS (Union Bank of Switzerland) have made a prediction that if a deal is agreed by March on a Brexit transition period between the UK and the EU, the BOE will raise interests rates this coming May. This builds on commentary at the end of January stating that money markets now see a 50% likelihood of a rate rise twelve weeks from now.

Prior to this, the consensus amongst economists was for a rise in August at the earliest. If the BOE move in May (as it appears they will), it would once again coincide with the release of a new inflation report and an ensuing press conference. This is a trend that was picked up on in a previous update. February’s inflation report (which will be delivered to the media by Mark Carney on February the 8th) will likely now be used to set the grounding for a May hike.

But whether, as UBS suggest, an agreement on a transition deal between the UK and the EU is necessary for the bank to raise rates in three months time is debatable. Given that the MPC’s position, according to Ben Broadbent, is to ‘take the economic data at face value’, it is unlikely that the BOE will be held captive by the progress or otherwise of Brexit negotiations. The rate of inflation and decreasing spare capacity have proven to be their main considerations.

Meanwhile, Stefan Ingves, who is Chairman of the Basel Committee on Banking Supervision that runs out of the Bank for International Settlements, recently gave a speech about Basel III. These reforms were finalised by the BIS in December last year, and here Ingves stressed the point that it is now up to member jurisdictions to adopt the measures of the BCBS in order to secure the post crisis reforms into national law. The BIS have no legal recourse to impose the reforms onto individual countries.

Ingves’s speech did not come without some subtle warnings:

  • The move to national implementation should not be read as an invitation to reopen policy issues and debates at a domestic level.
  • The unsound expedient of adopting standards that fall below the Basel Committee’s minimums can only lead to regulatory fragmentation, and in a bad scenario a potential race to the bottom.
  • It will continuously assess banks’ behavioural responses, and the potential emergence of any optimisation or arbitrage techniques that may not meet the letter or spirit of the Basel standards.

As I have written about previously, new regulatory standards over the years have failed to be fully adopted before the onset of a financial crisis (aspects of Basel III will only begin to be implemented from 2022). Thus, the BIS are already preparing for future reforms:

  • I believe that the Committee should remain open to the possibility of considering whether additional measures, or revisions to existing measures, are warranted to reduce excessive RWA (Risk-weighed assets) variability.
  • The Basel Committee will continue to exercise its mandate to strengthen the regulation, supervision and practices of banks worldwide. The agenda changes, but the purpose is constant – to safeguard and enhance financial stability.

Based on past events, it is quite conceivable that Basel IV (or its equivalent) could take precedent over current reforms should an economic downturn penetrate the mainstream over the coming months and years.

One aspect is clear, however – reforms tend to only gather momentum and be subsequently introduced following a crisis. With central banks rowing back on accommodative measures, the prospect of a sustained downturn is greater now than at any other time since 2008.


CNBC: UBS thinks the Bank of England could hike rates again in May – on one condition

  • The Bank of England (BoE) could increase interest rates as early as May, according to UBS, far sooner than expected by most analysts.
  • But this will happen only if the U.K. government is able to strike a deal with the European Union over a transition period after it leaves the bloc in March 2019, UBS said.
  • The U.K. central bank’s monetary policy committee (MPC) “is expected to raise rates in May, if a transitional deal has been struck,” UBS strategist John Wraith said in a note published Wednesday.
  • UBS has changed its forecast for the next rate hike, now predicting a 25 basis point hike in May that would take the rate to 0.75 percent. However, the bank’s global research unit made its prediction “explicitly conditional on a transitional deal being agreed by March.”

Telegraph: Volatility could be lurking in financial markets, warns Bank of England

  • Investors may be taking too many risks in over-priced markets because they are underestimating potential volatility, the Bank of England’s risk chief has warned.
  • Measures of volatility are low because investors can buy insurance cheaply – but Alex Brazier said that is akin to driving more dangerously because car insurance costs have come down.

Bloomberg: Carney Says Brexit Conundrums Are Clearing Up in U.K. Economy

  • Mark Carney said the conflict of managing Brexit-induced inflation against slower economic growth is becoming more straightforward.
  • “As slack in the economy has been taken out, we’ve moved into a more conventional area for monetary policy where the focus is increasingly on returning inflation sustainably to target over an appropriate horizon,” the Bank of England governor told the House of Lords Economic Affairs Committee on Tuesday.
  • On Brexit: “What we said prior to the referendum is that we thought the exchange rate would fall, perhaps sharply, inflation would go up, and growth would slow,” the BOE governor said. “After the referendum, the pound fell, sharply, inflation went up, and growth slowed.
  • “When the negotiations mature to a point where we know where we’re headed and when we get there, then we will have to do that sort of analysis and adjust the forecasts accordingly,” he said.

Business Insider: ‘Teetering on the edge of contraction’: Britain’s construction sector is in trouble

  • “UK construction companies reported a subdued start to 2018,” IHS Markit said in a release, which showed a reading of 50.2 for the sector in January, down from 52.2 in December, and well below the 52 reading that was expected.
  • The purchasing managers index (PMI) figures from IHS Markit are given as a number between 0 and 100. Anything above 50 signals growth, while anything below means a contraction in activity — so the higher the number is, the better things look for the sector.

Bloomberg: Former Fed Chair Alan Greenspan Sees Bubbles in Stocks and Bonds

  • “There are two bubbles: We have a stock market bubble, and we have a bond market bubble,” Alan Greenspan, 91, said Wednesday on Bloomberg Television with Tom Keene and Scarlet Fu. Greenspan, who led the Federal Reserve from 1987 until 2006, memorably used the phrase to describe asset values during the 1990’s dot-com bubble.
  • “At the end of the day, the bond market bubble will eventually be the critical issue, but for the short term it’s not too bad,” Greenspan said. “But we’re working, obviously, toward a major increase in long-term interest rates, and that has a very important impact, as you know, on the whole structure of the economy.”

CNBC: Fed leaves rates unchanged but gives more aggressive inflation expectations

  • In Janet Yellen’s final meeting as Fed chair, the central bank decided Wednesday against increasing its benchmark interest rate but indicated it expects inflation pressures to heat up as the year moves on.
  • “Inflation on a 12-month basis is expected to move up this year and to stabilize around the Committee’s 2 percent objective over the medium term,” the statement said. “Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely.”
  • According to projections released in December, officials expect three rate hikes this year so long as there is no significant disruption to market conditions. However, the market recently has been entertaining thoughts that the Fed could add another increase, likely at the final meeting of 2018.

CNBC: Goldman Sachs sees ‘high probability’ of a stock market correction in the coming months

  • Goldman Sachs believes “correction signals are flashing” and is advising its clients to prepare for a correction in the coming months as investors pour cash into the stock market.
  • “Whatever the trigger, a correction of some kind seems a high probability in the coming months,” Peter Oppenheimer, chief global equity strategist at Goldman Sachs, wrote Monday. “Our Goldman Sachs Bull/Bear Market Indicator is at elevated levels, although the continuation of low core inflation and easy monetary policy suggests that a correction is more likely than a bear market.”

Reuters: New UK mortgages fall to three-year low after Bank of England rate hike

  • Britain’s housing market lost momentum last month as lenders approved the fewest mortgages in nearly three years following the Bank of England’s first interest rate hike since the global financial crisis.
  • At the same time, lending to consumers – something the BoE is watching closely – sped up for the first time in four months.
  • Tuesday’s data showed the biggest rise in the interest rate on existing mortgages since 2010. That spells further weakness in the housing market during 2018 when the BoE is expected to raise interest rates again, economists said.

Guardian: UK car production falls for first time since 2009 as Brexit fears hit sales

  • UK car production went into reverse last year for the first time since the depths of financial crisis in 2009, as Brexit fears took hold and consumers turned their backs on diesel vehicles.
  • A total of 1.67m cars rolled off UK production lines in 2017, down 3% compared with 2016 as demand for British-made cars dropped both at home and abroad, according to the Society of Motor Manufacturers and Traders (SMMT).

Reuters: U.S. consumer spending rises; savings drop to 10-year low

  • U.S. consumer spending rose solidly in December as demand for goods and services increased, but the gain came at the expense of savings, which dropped to a 10-year low in a troubling sign for future consumption and economic growth.
  • Savings fell to $351.6 billion in December from $365.1 billion in the prior month. Savings declined to $485.8 billion in 2017, the lowest level since 2007, from $680.6 billion in 2016.
  • The saving rate dropped to 2.4 percent, the lowest level since September 2005, from 2.5 percent in November. It decreased to 3.4 percent in 2017, a 10-year low, from 4.9 percent in 2016.

FT: German retail sales pull back sharply in December

  • German retail sales hit reverse gear in December, pulling back after a strong rise in the previous month, according to data released on Wednesday.
  • Turnover in retail trade dropped 1.9 per cent in December from November, according to the Federal Statistics Office. The reading was significantly worse than the 0.3 per cent dip forecast by economists in a Reuters poll and comes after a 1.9 per cent rise in November.

BBC: EU agrees Brexit ‘transition’ negotiation guidelines

  • The European Union has set out its demands for the temporary transition period after the UK leaves in March 2019.
  • The EU wants the UK to continue to follow its rules but not be involved in making decisions.
  • The UK hopes the two sides can reach agreement by March.

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