Moneycorp: Are UK interest rates heading higher? [17/01/2011]

Moneycorp: Are UK interest rates heading higher? [17/01/2011]

– The market seems to think so
– Even though it might hurt the recovery

Good morning. The Daily Mail is at it again. Hard on the heels of last week’s thousand-pound-a-year mobile phone scare, today’s bit of rabble-rousing is “Families face £1,800 bill if interest rates soar as inflation prompts rate hike fears”. The number comes from Pricewaterhousecoopers and is apparently based on the assumption that the average household owes £8,000 on credit cards and loans. Currently the going rate of interest on a credit card is 16.68%. That means an interest cost of £1,334 a year. To raise that by £1,800 would mean upping the rate of interest on a credit card to 39.25%. Ooh er.

But wait: Who says interest rates are going up? The Bank of England insists that upward pressure on prices is only temporary. For the last 12 months it has been utterly consistent with that view and we could still be hearing the same story in a year’s time. The Ernst & Young ITEM (Independent Treasury Economic Model) club certainly hopes so. Whilst the club predicts UK economic growth of 2.3% this year and 2.8% in 2012 it believes higher interest rates are unnecessary and would prejudice the recovery. Peter Spencer, chief economic adviser to the club, says “it’s vital that the MPC stands firm. These are temporary pressures, domestic cost inflation remains low and CPI inflation will come back to heel in 2012 once the VAT increase falls out of the figures next January.” Trust me, I’m an economist.

Investors are not so sure. With the worst will in the world they are not ready to believe the Bank of England will sit idly by as public inflation expectations creep steadily higher. The European Central Bank’s president uses the expression more than most but the Old Lady, too, needs to “anchor” expectations to something lower than the 3.9% revealed in the latest survey. Data on Friday showed factory gate prices rising at a rate of 4.2% a year. Tomorrow’s consumer price index (CPI) inflation figure is expected to be steady at 3.3% and the retail price index (RPI), arguably a more realistic cost-of-living measure, could be up by 4.8% on the year. The market has got it into its head that the Bank will not be able to ignore numbers like this for another 12 months. At the aggressive end of forecasts, some analysts believe rates could start going up as soon as May.

That sentiment has been helpful to the pound since Friday morning. Except against the Canadian dollar, where it is down by a dozen or so ticks, sterling starts the week above Friday morning’s levels. It even got a bit of help from a house price index this morning. Rightmove’s index, which fell by -3.0% a month ago, is up by 0.3% in January.
There is not much else to come today. Nothing, actually, apart from Canadian international securities investments. Tonight brings New Zealand house prices, UK consumer confidence and Japanese industrial production. Oh, and the RICS house price balance. That should neutralise the Rightmove stats. Until then, however, the enhanced expectation of higher UK interest rates might be enough to keep the pound buoyant.

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