Posts Tagged ‘Bank Rate’


The threat to quantitative easing – or QE – is like a nuclear deterrent. If rates are forced up by the markets, we will use QE, suggests the Bank of England, and therefore there is no need for it, as markets price in what might happen if they don’t heed the bank’s words. That is the theory. It is as if Mark Carney bestrides the banking stage, with his finger always near the red button marked QE, and as a result the markets dare not release their venom, for fear that they will be caught out by detonation. The reaility seems quite different, and yesterday Mark Carney had another go; putting on his poker face and staring at the markets: “Go ahead,” he seemed to be saying, “make my day.” Alas, the markets are still not buying it.

The markets have been pushing up yields. The yield on UK government ten year bonds has risen from a low of around 1.5 per cent a year ago, to 2.8 per cent at the time of writing. The Bank of England says rates are going to stay low until 2016, but the markets are far from convinced.

It is presented as bad news but actually it may be quite the opposite. The Bank of England says rates may rise once unemployment falls to 7 per cent, providing inflation does not show signs of rising sharply. The markets are saying they think this will happen in 2015; the Bank of England is saying 2016. So to try to convince the markets, Mark Carney has to try to talk down the prospects of the UK recovery without – and get this for an impossible mission – dampening confidence.

Yesterday Mark Carney spoke. In fact he was speaking at the East Midlands Conference Centre. So that’s quite a journey for Mr Carney, from Canada to the East Midlands Conference Centre – whatever next, the Andromeda galaxy perhaps?

Give the new governor at the Bank of England credit, he was transparency itself. He said: “Our forward guidance provides you with certainty that interest rates will not rise too soon. Exactly how long they stay low will depend on the progress of the recovery and in particular how quickly unemployment comes down. What matters is that rates won’t go up until jobs and incomes are really growing.” He also said: “We will have to see the rate of unemployment, currently 7.8 per cent, fall at least to a threshold of 7 per cent before even beginning to consider whether to raise Bank Rates.” Note that: even considering raising rates.

He then went at great lengths to spell it out: getting unemployment down to 7 per cent will be tough. So why then are markets pushing up rates? Mr Carney said one possibility is that: “Markets think that unemployment will come down to 7 per cent more quickly than we do. Since the aim of our policy is to secure recovery as quickly as possible, that would be welcome. But policy is built not on hope, but on expectation. And we estimate there is only a 1 in 3 chance of unemployment coming down that quickly.”

So note that: he is saying there is a one in three chance that rates will rise before 2016.

Finally, he made a reference to the US. When the Fed revealed plans to start reducing QE soon, many assumed the Bank of England would follow – leading to yields on bonds rising, and fast. You may be interested to know, that for the last three months, the yield on US government bonds has been higher than the UK equivalent. This changed this week, however, as markets rushed to safety over fears of a Syrian conflict escalating. On the subject of US and UK rates, Mr Carney said: “While much has been made of the special relationship between the US and UK, it is not so special that the possibility of a reduction in the pace of additional stimulus in the US warrants a current reduction in the degree of monetary stimulus in the UK.”

So it’s all pretty clear. The Bank of England has no plan to up rates soon. The markets responded by pushing up market rates. Soon after Mr Carney sat down yesterday, the yields on UK government bonds rose.

The markets are not buying it. Carney may yet be forced to push the ‘more QE button’ after all – it is just that the decision is not just his. Carney has a politburo – or a Monetary Policy Committee – that must vote to extend QE. And the markets don’t believe Carney’s colleagues will allow him to press the button.

© Investment & Business News 2013


In the UK there is something confusing going on. They call it the productivity puzzle. Why is it that during the worst downturn ever suffered by the UK – at least it’s the worst since the beginning of the last century which is how far back the data goes – employment has kept growing to the extent that this year it passed an all-time high? Data provides a hard answer: productivity has been falling. But what the data does not do is provide the reason why.

Maybe the reason can be provided by the existence of Zombie companies. Once again, hard data comes to our aid – they really do appear to exist.

So interest rates were slashed to record lows, and then just to be sure they were slashed some more. That was the story of the great downturn: record low rates. If things had been different, if central banks have been more circumspect, had fretted about inflation, and moral hazard, then the great recession of 2008/09, and the downturn that began in 2008 would have been far far worse.

Company liquidations and indeed individual insolvency levels would have soared. House prices might have crashed. Unemployment would have risen to horrendous levels, and youth unemployment would have topped 50 per cent in some regions. In fact if the Bank of England and the Fed had adopted that policy, the UK and the US would have ended up looking a lot like the Eurozone.

Fortunately, in the democratic countries of the UK and the US the electorate would have never have tolerated such a state of affairs. It appears that the electorate in certain Eurozone countries was powerless to act; their cross on the electoral ballot had as much meaning as an Egyptian voting for the Muslim Brotherhood.

But just because record low rates stopped the UK from suffering an even worse downturn, it does not mean that the policy hasn’t come with disadvantages.

A year or so ago, the then FSA issued data showing that between 5 and 8 per cent of mortgages could be subject to forbearance. At that time, Dr Angus Armstrong at the National Institute of Economic and Social Research said: “This has a familiar ring of the zombie firms in Japan which were insolvent but the banks would not close to avoid crystallising a loss.”

But what about the corporate world? We keep hearing about zombie companies, but are they for real?

So here is the data:

First off here is the chart that shows something is wrong:

And now here is the chart that shows why zombie companies may provide a partial explanation.

The Bank of England put it this way: “Liquidations have risen only modestly since the financial crisis, even though data from companies’ accounts suggest that the proportion of companies making a loss is higher than in the early 1990s. Insolvency professionals suggest that more businesses have been able to survive the 2008/09 recession because of the low level of Bank Rate, coupled with increased forbearance. That includes forbearance by banks on existing loans, by HMRC on outstanding tax payments, and by other companies on late payments.

Forbearance and low interest rates will allow some viable businesses to remain in operation through a temporary period of weak demand. But in other cases, where businesses will find it hard to compete in their markets when demand recovers, forbearance acts as an impediment to the efficient reallocation of capital and labour, reducing underlying productivity growth. Similarly, it may have dampened the incentives to carry out the restructuring needed by some companies in order to grow strongly.”

But in the US, where the central bank has been just as proactive as the Bank of England in promoting low interest rates, things have been different.

As far as households are concerned, there is a key difference in the way in which the mortgage market operates. In the UK if you find yourself with negative equity, having your home repossessed does not help because it is still your responsibility to pay the shortfall. In the US, it is the bank’s responsibility. This has led to a more ruthless approach to mortgage repossessions in the US, but at least this is kinder on those with negative equity and who cannot meet commitments, and it is has led to fewer so-called zombie households.

As for companies and entrepreneurs, in the US the same stigma does not apply to bankruptcy as there is in the UK. Indeed for US entrepreneurs, it sometimes feels as if facing bankruptcy is a sort of rite of passage. Chapter 11 is often applied very effectively in the US – consider GM for example.

In the US, we have seen record low interest rates, but creative destruction too.

In the UK where –to a large extent – we have only had record low rates, it may become a problem as the economy recovers, and rates finally rise.

© Investment & Business News 2013