Mixed signals on interest rates

It’s been another confusing week for anyone wondering when UK interest rates will finally rise again. Inflation data was surprisingly weak in July – the consumer price index (CPI) rose by just 1.6% on last year, from 1.9% in July.

However, minutes from the latest Bank of England meeting showed that opinions were split for the first time since July 2011. Not one, but two of the nine Monetary Policy Committee (MPC) members voted to raise the key interest rate by 0.25% at the meeting on 7 August.

The two were concerned that wage growth is a lagging indicator, and that if the Bank waits for currently weak pay figures to improve, it will already be too late to curb inflation.

What the commentators said

The slide in inflation has a simple explanation, said Larry Elliott in The Guardian. Summer sales were late this year, with clothing and shoe retailers cutting prices by almost 6%, more than in 2013. And sustained price rises don’t seem to be on the horizon.

Lower costs for fuel and raw materials, along with “tight control of pay”, are keeping a lid on manufacturing costs, while the strong pound is capping import prices.

Certainly, subdued inflation and wage growth suggest we won’t have higher rates before 2015 – but the MPC minutes are more hawkish, implying we can’t rule out a rise this year, said UKForex’s Alex Edwards. It all adds up to “a confusing message to investors, households and business owners”.

The upshot, reckoned James Knightley of ING, is that we should pencil in a hike in February. The chances are that as well as weak wage data, ongoing fears of another downturn in the eurozone, Britain’s biggest trading partner, will prompt most MPC members to opt for the status quo for now. The minority of two is unlikely to grow for some time.

It wasn’t just the data giving mixed signals this week. Bank of England Governor Mark Carney appeared to move the “goalposts yet again”, as UBS’s Geoffrey Yu put it. Last week, he sounded dovish (less likely to raise rates) when he cut wage growth forecasts and said they were a key indicator. But in a weekend newspaper interview he said rates could rise before earnings growth had caught up with inflation.

And it’s not his first apparent about-face, as Elliott noted. The markets could be forgiven for telling him that “a period of silence on your part would be welcome”.

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