Carney Rolls Out Guidance Campaign as Yields Surge: U.K. CreditSimon Kennedy and Scott Hamilton
David Frankish works 140 miles (225 kilometers) north of the U.K.’s financial district, running a chilled-food transportation firm with 2,000 employees and seven depots.
Distance from the City of London doesn’t stop the chief executive officer of NFT Distribution Ltd. from sharing investors’ qualms about Bank of England Governor Mark Carney’s ability to maintain U.K. interest rates at a record low.
As Frankish prepares to attend Carney’s first official speech in nearby Nottingham tomorrow, he’s seeking more insight into the BOE’s plan to keep its benchmark rate at 0.5 percent until 2016. Investors have already expressed their doubts by adding to bets on higher interest rates before then and pushing up gilt yields and the pound.
“It’s not skepticism, it’s question marks,” Frankish, 59, said in a telephone interview, noting risks including sustained inflation and house-price gains as well as higher market rates as the Federal Reserve unwinds stimulus. “There may be a need to raise interest rates before 2016,” he said, citing the BOE benchmark as one factor in his investment plans.
It’s people such as Frankish that Carney needs to convince if his guidance is to gain traction by inspiring businesses to invest and consumers to shop. Under the policy, the BOE plans to keep its key rate unchanged at least as long as unemployment exceeds 7 percent providing the economy doesn’t overheat. The jobless rate was 7.8 percent in the second quarter and the BOE sees it above the threshold until late 2016.
“For monetary policy to work most effectively, people need to understand that rates are going to stay low until the recovery is stronger,” said Michael Saunders, chief western European economist at Citigroup Inc. in London, who plans to attend the Nottingham event. “Saying the message often and simply should help.”
Financial markets are already questioning the strength of Carney’s commitment.
The implied yield on short-sterling contracts expiring in September 2015 has risen 34 basis points this month to 1.28 percent. It reached 1.36 percent last week, the highest since June. The extra yield investors demand to hold U.K. 10-year gilts rather than German bunds widened to 85 basis points Aug. 19, the most since June 2010, and was 75 basis points today.
The pound has risen about 2 percent against a basket of nine developed-market currencies in the past month, according to Bloomberg Correlation-Weighted Indexes.
“The gap between Mark and market is now big enough to be a serious concern for the new governor,” said Rob Wood, chief U.K. economist at Berenberg Bank in London who previously worked at the BOE.
Robin Hood Country
Tomorrow’s trip to meet regional business leaders in Nottingham, the home of legendary outlaw Robin Hood, is the latest chapter in Carney’s communications drive.
To spread his message, Carney has granted five broadcast interviews in the past month and will speak to reporters again after the Nottingham speech. Predecessor Mervyn King was less accessible to the media, preferring in general to limit comments to quarterly press conferences and prepared speeches.
Noting it’s not just investors he’s seeking to inform, Carney told Sky News on Aug. 7 that officials are providing clarity so that consumers mulling a big purchase or businesses debating investment “can make decisions with as much certainty as possible.”
In a Bloomberg News interview published yesterday, Deputy Governor Charlie Bean said he was a “little bit” surprised by the market reaction. He ascribed it to the improvement in the economy as well as investors having anticipated the announcement and perhaps having a different outlook for unemployment.
Still, he said the bank is trying to give a “clear signal that interest rates are not likely to rise imminently” and that executives told him on a recent trip to Northern Ireland “how valuable they thought guidance was.”
The campaign to inform the public was a hallmark of Carney’s governorship of the Bank of Canada. He said in December that his 2009 pledge to keep rates on hold until mid-2010 “worked because it reached beyond central bank watchers to make a clear, simple statement directly to Canadians.”
The new approach in the U.K. is welcomed by John Carlill, managing director at Steetley Dolomite Ltd., a Nottingham-based producer of dolomite that employs about 150 people and has an annual turnover of 40 million pounds ($62 million).
“It’s good to know rates aren’t going to go up,” he said in a telephone interview. “That’s the stability we need.”
The need for greater clarity was evident in a June survey by the BOE, which found 34 percent of households expected interest rates to rise over the next 12 months.
Carney may already be gaining some traction. The number of households expecting the BOE to increase rates in the next two years fell to 40 percent this month from 53 percent in July, according to a Markit Economics Ltd. poll of 1,500 people. About a quarter anticipate an increase within the next year, down from 35 percent in July.
A worry for Richard Barwell, senior European economist at Bank of Scotland Group Plc, is that people don’t pay attention to the so-called knockouts in the policy pledge. By jumping to the conclusion that rates are on hold for three years, they may take on too much risk. That’s in spite of Carney’s caution that the guidance is conditional on data and not guaranteed.
“The risk is they’ve just heard rates are on hold and there are no caveats,” said Barwell. “You ought to check what message people heard.”
Even if they are hearing correctly, unemployment and inflation trends can be “tricky for people to monitor” as they try to gauge the outlook for rates, said George Buckley, chief U.K. economist at Deutsche Bank AG.
Another point of potential confusion is that officials themselves appear divided, with several having questioned guidance before Carney’s arrival. Martin Weale voted against it this month because he wanted the inflation-escape hatch to be bigger, while some members of the Monetary Policy Committee said market expectations were not “obviously out of line,” according to minutes of their Aug. 1 discussion.
That means “more dovish words” from Carney, said Berenberg’s Wood. “And if that doesn’t work then we’ll see more votes for quantitative easing.”