Mark Carney, the Governor of the Bank of England, said earlier this year that things would get more exciting with regard to interest rate policy at the turn of the year. Now he has indicated that UK interest rates are unlikely to rise before 2017.
Part of the reason for this is that inflation remains benign. China's slowdown has been well documented and this has had a marked impact on commodity prices, leading to lower global inflation. In addition, China's manufacturers, facing lower demand, have reduced prices, which has contributed further to lower inflation. As a result, the Bank of England does not see inflation rising about its 2 per cent target for at least two years.
The UK is looking to maintain a policy of easy money
The Bank of England has also indicated that it will retain holdings of £375 billion in government bonds that resulted from quantitative easing for the time being and will purchase more bonds as those in its portfolio mature. It has said that it will not sell these bonds until interest rates rise above 2 per cent. Markets do not expect rates to rise above this level until 2020.
All of this indicates that the UK has come down on the side of Japan and Europe in terms of looking to maintain a policy of easy money for the time being and the US sits alone in terms of looking to increase interest rates. Within the G7, only the US is achieving higher levels of economic growth than the UK. The Governor's comments with regard to interest rate policy in the UK reflect his underlying concerns about momentum and the poor performance of manufacturing and construction.
The UK is returning to its old ways – consumers are bailing us out
At the end of last month, estimates for third quarter GDP growth were released. They showed a slowdown from 0.7 per cent growth in the second quarter to 0.5 per cent. Within the figures, there was a decline in manufacturing and another fall in construction.
It appears that the UK is returning to its old ways, with a consumer boom bailing out a deteriorating underlying position. This was borne out by the retail sales figures for the third quarter, which grew by 0.9 per cent. The Chancellor has long stressed the importance of reducing the UK economy's reliance on services and boosting performance for manufacturing and construction. This has not happened. The outlook for 2016 suggests that services will again lead the way as wages are growing at around 3.5 per cent whilst interest rates remain at 0.5 per cent and inflation will be below 1 per cent. Consumers will spend, the economy will grow and the imbalance will become more exaggerated.
Why is this happening? See Thursday's blog for my analysis.