Cutting interest rates won’t save the housing market

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We don’t know what Mervyn King pours onto his cornflakes in the morning. Or spreads on his toast, or pours into his glass. But judging by his comments in yesterday’s Bank of England quarterly inflation report, it’s definitely not milk, butter or orange juice.

Because according to Mr King, inflation isn’t such a big threat after all. In fact, the BoE governor seems to think that interest rates could be cut comfortably from 5.75% to 5% without letting inflation get out of control. Based on those comments, most experts think cuts will come in the New Year.

Now, maybe on £275,000 a year, King doesn’t have to worry about what goes into his shopping basket. But for the sake of the UK consumer, we hope he takes a look soon…

If you use the Bank of England’s preferred CPI measure, inflation jumped to 2.1% last month from 1.8% in September. Above the Bank’s 2% target, but not the kind of price pressure that will have you flogging your wedding ring down at the local pawnbroker.

But if Mervyn King, like the rest of us, had taken a trip down to the supermarket recently, stocked up on bread and butter for the week, and then driven home with a tank full of petrol, he might be sweating a little bit more. He’d know that inflation is far more of a problem for the average man on the street than he’d like to think.

According to new research commissioned by The Daily Telegraph, middle-class households face inflation of as much as 7.2%, almost double the average wage increase over the last 12 months. Petrol and food prices are the chief culprits, rising in tandem with higher oil and global soft commodity prices.

Petrol prices were up 2.8% last month, with the average litre now costing £1 for the first time ever. Overall food prices are up 5.1% on a year ago, with meat prices up 4.6%, dairy products 11.3%, and flour 30%. That was the biggest rise in 20 years for the grain.

We’ve talked before about the reasons for this before, higher demand from Asia and the biofuel boom being the two key drivers, so won’t go into it just now. Suffice to say that resource inflation is a problem that won’t go away.

What’s also clear though, is that the UK economy is under serious threat. The problems presented by the credit crunch mean that even if interest rates do fall in the New Year, we’re unlikely to see cheaper mortgages with them. The average mortgage rate stood at 6.02% in September against 5.91% in August and it looks like it’s already having an effect on the highly inflated housing market. The Royal Institution of Chartered Surveyors reported earlier this week that the housing market is seeing its biggest slowdown in two years.

But because of the Northern Rock debacle, the one that so embarrassed Mr King over a month ago, it’s an above evens bet that the banks have learnt their lessons when it comes to offering mortgages to the poor and insolvent. Now they’re likely to swing the other way, withholding mortgages from all but the most credit-worthy.

So do spare a thought for Mr King. Because over the next few months, stuck between rising inflation and a collapsing housing market, he’ll have a lot more to juggle than what he wants to eat for breakfast.

Turning to the wider markets…

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In London, a rally in the mining sector saw the benchmark FTSE 100 index end 69 points higher, at 6,432. Miners Kazakhmys and Antofagasta led the risers on higher metals prices. Northern Rock was the biggest faller once again. For a full market report, see: London market close

Elsewhere in Europe, the Paris CAC-40 was up 74 points, at 5,613. And in Frankfurt, the DAX-30 was just 5 points higher, at 7,783.

On Wall Street, stocks gave up earlier moderate gains at the end of the day as flat producer price inflation dampened down hopes of an interest rate cut. The Dow Jones was 83 points lower, at 13,223. The S&P 500 gave up 10 points to end the day at 1,470. And the tech-rich Nasdaq fell 29 points to end the day at 2,644.

In Asia, stocks fell as investors sold off exporters in response to US retail sales data, which showed slow growth. Japan’s Nikkei index was down 103 points, at 15,396. And in Hong Kong, the Hang Seng had fallen 414 points to 28,751.

Crude oil jumped nearly $3 to close at $94.09 in New York yesterday, but had fallen back to $93.80 today. Brent spot was at $90.76 in London.

Spot gold had fallen to $813.00 this morning and silver had crept up to $15.03.

Turning to the forex markets, the pound was at 2.0539 against the dollar and 1.4014 against the euro today. And the dollar was at 0.6821 against the euro and 110.8 against the Japanese yen.

And in London this morning, Barclays was the latest bank to announce writedowns relating the US subprime mortgage collapse. The company is to write down a total of £1.3bn – £500m for the third quarter and £800m for October. However, Barclays also announced full-year increases in net income and profits. Shares had risen by as much as 6.9% in London this morning.

Finally, our recommended articles for today…

Eight major risks to the global economy
– Conflicting fundamentals have brought heightened volatility to global investment markets. Martin Spring picks out the eight negatives that could cause a market shock:
Eight major risks to the global economy

A sure sign that China’s in a bubble
– You only really need to look at average p/es and a chart of the Shanghai Composite to see that China is in a bubble. But if you’re still in any doubt, just consider the IPO of ‘e-commerce company’ Alibaba last week, says Merryn Somerset Webb. For more on the latest signals that the Chinese market is overheating, click here:
A sure sign that China’s in a bubble