Highlight | MPC Minutes

Reading into the MPC Minutes

In February the MPC kept interest rates unchanged at 0.5% for a 23rd month, but the minutes released a fortnight later revealed a third vote in favour of an increase.

The Bank of England (BoE) has held interest rates at 0.5% for almost two years, and for most of those months the decision has been a foregone conclusion. But recently there has been growing support for a rates hike from MPC members:

• March 2009 – MPC votes unanimously to reduce interest rates to 0.5%, and all nine members agree to keep the level so for the next 14 months
• June 2010 – Andrew Sentance starts calling for a 0.25% increase, but without any support
• January 2011 – Martin Weale adds his voice and vote to increase interest rates
• February 2011 – the rate is again maintained at 0.5% but Spencer Dale becomes the third committee member to back an increase

The effect of the vote and the voting

The decision in February to keep interest rates at 0.5% did not alarm markets much, and the lead-up to the announcement did not encourage much volatility. Despite the concern of growing inflation, nobody really expected a rate change at this stage and markets reacted calmly enough to the news.

In fact, the details of the voting have proved more interesting to markets than the eventual decision. For example, on Friday 18 February sterling rose sharply against the euro and the dollar on speculation that a third vote might have been cast in favour of a rate hike this month. [1]

As it happens, there was truth in the rumour, as it was revealed on Wednesday 23 February that Spencer Dale did indeed vote for a 0.25% increase. Of added interest, after eight months calling for a 0.25% rise himself, MPC member Andrew Sentance raised his recommendation to a 0.5% increase.

Understanding the options

Very basically, the BoE's options and their implications can be summarised like so:

• Keep interest rates low in an attempt to further boost spending and thereby support the ongoing economic recovery
• Raise interest rates, which will inevitably reduce spending, and therefore serve to cool rising inflation levels

The state of the economic recovery will be central to the timing of any decision to raise interest rates, and recent releases only confuse the issue. In January, UK manufacturing figures showed strong growth, and retail sales were well up as well, but these positives followed disappointing Q4 GDP data, and the widening of the trade balance in December.

In terms of inflation, the UK is now sitting at double the BoE's 2% target, with the added implication that worse is still to come. Some analysts have attributed the accelerated levels to temporary factors, however, arguing that the MPC must ensure that inflation is under control in two years' time.

Ultimately, there are arguments for both positions, which is why the MPC minutes were so eagerly anticipated this month.

Is a rate change inevitable?

Experts seem to think there will have to be some rates hikes this year, but the crucial question is when these may take place. Opinions and analysis are divided, but the market looks to be pricing in a May/June hike, while economists appear in favour of a more cautious approach – most likely the fourth quarter according to many. [2] This question of timing is perhaps the most interesting element, and also the one that holds potentially the greatest opportunity for investors.

Take a position

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Source: [1] Reuters (18 February 2011)
Source: [2] The Guardian (10 February 2011)

Updated: 25/02/11

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