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Some itchy trigger fingers on the MPC

Date: Wednesday 15 Aug 2012

Some itchy trigger fingers on the MPC

The Bank of England's Monetary Policy Committee (MPC) voted unanimously in favour of keeping the central bank's key interest rate at its record low, but more quantitative easing later this year should not be ruled out.

All nine members of the MPC voted in favour of leaving the asset purchasing programme, or quantitative easing (QE), unchanged at £375bn, but some members were clearly tempted to turn the QE dial "up to 11", according to the minutes of the August 1st/2nd meeting of the MPC.

The central bank's Funding for Lending Scheme (FLS) only kicked in at the beginning of August, so it was only to be expected that the committee would want to see how this initiative, aimed at boosting bank credit, proceeds.

"Over the coming months, the committee could take stock of the impact of the FLS and the implications this had for other potential policy options," the minutes from the meeting revealed.

However, for some members "the decision [to leave QE unchanged] was more finely balanced, since a good case could be made ... for more asset purchases," the minutes revealed.

Those committee members might have been spooked by grim second quarter gross domestic product (GDP) figures for the UK in the second quarter, although the minutes from the MPC minute note that "while GDP had been rather weaker than median expectations, it was broadly in line with what the Committee had anticipated at the previous meeting."

"Some of the reduction in construction output might also prove temporary, but this was unlikely to explain much of the 10% fall in activity that the sector had seen since the beginning of the year. Surveys of construction output and orders had indicated a much more moderate pace of decline over recent months. The data on new orders did not suggest further large declines in activity were probable, but neither did they indicate much likelihood of a strong bounce back," the minutes continued.

According to the MPC, measured GDP "could be expected to rise sharply in the third quarter" as the Queen's Diamond Jubilee effect unwinds. The Committee continued to judge that underlying activity had expanded very modestly in the first half of the year, but it was possible that it would be flat in the third quarter.

The boffins at the bank remain perplexed at underlying productivity continuing to decline even as employment levels recover.

"Problems in the banking system might have prevented some companies from obtaining finance to expand their operations, while others might have found their production constrained by restricted access to working capital," the MPC speculates.

"On the other hand, the weakness in productivity might be cyclical. Some companies might have needed to retain a certain minimum level of staff to continue operating, and depressed trading conditions could mean that employees had to work harder to generate new business. In addition, companies might have maintained or taken on new employees in the expectation of an increase in
demand, either domestically or overseas, depressing measured productivity in the interim. Should that increase in demand fail to materialise, they could be forced to reduce staffing again, perhaps significantly," the report warns.

The external environment, and in particular developments in the euro area, are set to remain a key influence on UK activity, the MPC believes.

In the end, it appears the MPC is pinning its hopes on the FLS, which has "the potential to improve funding conditions for banks materially and to encourage lending, thus providing some support to both demand and supply."

"Set against that, the FLS might prove less effective if uncertainty and risk aversion among households and businesses were the dominant factors holding back spending in the current environment. These same factors might also limit the effectiveness of additional asset purchases," the report concedes.


JH

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