Highlight | MPC Minutes Revealed

In February the Monetary Policy Committee (MPC) kept interest rates unchanged at 0.5% for a 23rd consecutive month, but the meeting’s minutes revealed a third vote in favour of an increase.

The Bank of England (BoE) has maintained interest rates at 0.5% for almost two years now, and for most of that time the decision has been completely expected. But just recently there has been some support from MPC members for a rates hike:

• March 2009 – committee votes unanimously to reduce interest rates to 0.5%, and all nine members agree to maintain this level for the following 14 months
• June 2010 – Andrew Sentance begins calling for a 0.25% increase
• January 2011 – Martin Weale adds his voice and vote to increase interest rates
• February 2011 – no change to the rate, but Spencer Dale becomes the third member to back an increase

The effect of the vote and the voting

February’s decision to keep interest rates at 0.5% did not surprise markets much at all, and the days leading up to the announcement did not show for much volatility. Despite the concern of growing inflation, nobody was really expecting a rate change at this juncture and markets reacted calmly enough to the news.

In fact, the details of the voting have proved just as interesting to markets as the eventual decision, if not more so. By way of example, sterling rose sharply against the euro and the dollar on Friday 18 February on speculation that a third vote might have been cast in favour of a rate hike this month. [1]

As it turned out, there was truth to the rumour, as it was revealed on Wednesday 23 February that Spencer Dale did indeed vote for a 0.25% increase. Of added interest, after eight months calling for a 0.25% rise himself, MPC member Andrew Sentance raised his recommendation to a 0.5% increase.

Understanding the options

Simply put, the BoE's options and their implications can be summarised like so:

• Keep interest rates at their current low in an attempt to boost spending and thereby further support the economic recovery
• Raise interest rates, which will inevitably lead to reduced spending, and serve to cool rising inflation levels

The strength of the economic recovery will be fundamental to the timing of any decision to raise interest rates, and recent data releases have only served to confuse the issue. In January, UK manufacturing data showed strong growth, and retail sales were also improved, but these positives followed dispiriting Q4 GDP data, and the widening of the trade balance in December.

The UK is now reeling at double the BoE's 2% inflation target, and the general feeling is that worse is yet to come. However, several analysts have attributed the rising inflation level to temporary factors, suggesting that the MPC’s primary objective must be to ensure that inflation is under control in two years’ time.

Ultimately, there are arguments on either side, which is why the MPC minutes were so eagerly anticipated this month.

Is a rate change inevitable?

Experts seem to agree there will be some rates hikes in 2011, but the crucial question is when these would take place. Opinions and analysis abound, but the market looks to be pricing in a May/June hike, while economists are more in favour of a cautious approach – most likely the fourth quarter according to many. [2] The question of timing is perhaps the most fascinating element, and also the one that holds potentially the greatest opportunity for investors.

Take a position

An IG Markets account enables you to back your judgement and take a position on a range of markets. If you believe sterling may be affected by a rates increase, we offer an extensive range of forex pairs. Alternatively, leading stock indices such as London’s FTSE^® 100 – top-heavy with leading banks and mining companies – could be affected.

If you don't have an IG Markets account already, you can apply online in minutes, with no forms to send and no obligation to fund, to get started trading CFDs.

Source: [1] Reuters (18 February 2011)
Source: [2] The Guardian (10 February 2011)

Updated: 25/02/11

The above comments do not constitute investment advice and IG Markets accepts no responsibility for any use that may be made of them.