Bank of England cuts rates

The Bank of England has cut interest rates by 0.25% to a record low of 0.25%, as well as increasing the asset purchase facility by £60 billion. These measures undertaken by Governor Mark Carney are aimed at preventing a recession and rising unemployment at the risk of causing above target inflation. Carney later said that these actions will help, but it is not possible to full offset the shock caused by Brexit.

The decision to cut rates was unanimous. However, there was disagreement on increasing the asset purchase facility, with the vote 6:3 in favour. Notoriously hawkish Mccafferty and Weale both voted against it, with Forbes joining them as well. The was also £10 billion worth of corporate bond buying announced, which Forbes voted against.

It is important to note that whilst Carney acknowledged that these actions could result in inflation being above target in the medium term, he saw it as the best way to ensure that inflation was close to target in the long term. Brexit caused sterling to lose 9% of its value, resulting in imported inflation, now the inflationary impact of lower rates and QE will send inflation higher again. These actions were not fully expected by the market, meaning the Pound fell in value on the decision, which will exacerbate imported inflation. Therefore, the Bank of England has altered the normal time horizon over which they normally target inflation. Noting that if they did not take these measures, the rise in unemployment and slowdown in the economy would result in below target inflation in a couple of years and lower growth.

During the press conference following the announcement Carney reiterated that he is not considering the possibility of negative interest rates. However, the statement did mention that a majority of the Monetary Policy Committee see interest rates being close to their 0% lower bound by the end of the year. This would seem to imply that a November rate cut is on the cards, but it will be by less than 25 basis points.

The markets reacted positively to the decision. The FTSE rallied 100 points and other indices received a boost as well. UK Gilt yields fell, with the 5 year setting an all time low yield of 0.22%, as the UK yield curve continues to edge closer to the 0% line. Cable took a hit and fell about 200 pips, currently a bit above the $1.31 level. The Short sterling market rallied but the Sep16-Dec16 spread has been decreasing in anticipation of more action by the end of the year.

 

Photo courtesy of Bank of England via flickr

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Reuters: Business News

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