The recent release of the MPC minutes has given the pound an excellent boost. Adam Posen, the policymaker who has so often stood alone as the Bank of England’s arch dove, has seemingly abandoned his quest for further quantitative easing. Two votes became one in the MPC’s April meeting then, with only David Miles seeing fit to vote for a further £25bn in asset-purchases, though he stressed the decision was “finely balanced.”
The last quarterly inflation report assumed a fairly steady downtrend in UK inflation but the MPC is now noting higher medium-term inflation risks, which reduces the attractiveness of further QE. Higher inflation requires tighter monetary policy. For David Miles, the threat of a third consecutive decline in UK growth and another technical recession looms too large and he voted for extra £25bn of QE accordingly. Clearly, next week’s Q1 UK GDP figure will be crucial and the risks of another negative reading are not insignificant. However, April’s PMI surveys from the UK’s manufacturing, construction and services sectors were very encouraging and the recent UK labour statistics also provide room for optimism. The recent UK retail sales figure, which revealed stunning 1.8% growth in March, should ensure a positive GDP number on April 25th.
The BoE does appear to be moving away further monetary easing at present but the UK economy remains distinctly fragile. Many market players will be assuming further QE is now off the table but if inflation eases towards the end of the year and growth remains weak, dovish arguments will once again come to the fore. What’s more, the eurozone debt crisis could force the BoE’s hand if the situation in Spain and Italy deteriorates rapidly.
There is also the issue of Adam Posen’s thinking – whether he has really given up on more asset-purchases. Posen has indicated that he merely saw fit to let the current round of QE run its course. Posen will be able to reassess the need for a top-up in May, by which time the BoE’s inflation projections will have been formally updated and we will know whether the British economy has suffered the dreaded ‘double-dip.’ Only time will tell on this issue, but it’s fair to say the market may have jumped the gun in respect to Posen’s ‘change of stance.’ Our bet is that we will see Posen vote for more QE before the end of 2012.
Regardless, the majority of the MPC appear far too concerned with upside risks to inflation, and perhaps with preserving the BoE’s credibility on the issue of maintaining price stability, to step up QE at its next meeting in May or any time soon.
Whilst sterling’s safe-haven status has enabled it to weather the constant threat of QE hanging over it, it has undoubtedly weighed on demand in recent months. Sterling has now been freed up to rally in the aftermath of the minutes, climbing to a 20-month high against the euro and a six month high against the US dollar. Even higher levels will be seen against an increasingly weak single currency, though we maintain a negative outlook for the pound against the US dollar.
Richard Driver
Currency Anlayst
Caxton FX
