Currency watch: Inflation report to impact growth forecast

As the next month is likely to be characterised by the will and movements of the world’s central banks, hints as to their future expectations on economic performance are key to formulating a likely policy outlook.

Although this week’s Quarterly Inflation Report from the Bank of England was one of the more “by the numbers” releases, questions fielded afterwards by Mervyn King added some colour to the way that the MPC is thinking about how it deals with the economic turmoil the UK economy finds itself in.

Growth was downgraded as expected to basically a flat-line throughout 2012, with a strong bounce back predicted in 2013.

This is the same bounce back that has been forecast in 2009, 2010, 2011 and 2012 so you’ll forgive me if I don’t get too excited about it. King asked for “patience” as it seemed from other points made by the Governor that the Bank was running out of options.

Good news did come in the form that inflation is forecast to dip over the same period.

This will obviously help lower the disparity between wage growth and price increases which is the number one cause of low consumer confidence and aggregate demand. The lower inflation is also of course due to the lack of demand as well which will lead to calls to help demand via additional stimulus.

The biggest surprise in announcement terms was Mervyn King’s assessment that a cut in interest rates was unlikely.

He stated that the cut “would damage some financial institutions” and “we discussed it, but we decided that it would be more counterproductive than beneficial”. This saw a big pop higher in sterling as a fair few people had started to price in a 25bps cut at some point in the future.

We had argued that any rate cut in the short term would not lead to an increase in spending and would more than likely lead to consumers paying down debt and saving more for a rainy day.

So despite the likelihood that we are likely to see more QE from the Bank, sterling rose on the day; these markets are becoming increasingly annoying.

The overarching problem however remains Europe. In response to criticism about the predictive and prognosticative powers of the MPC, the governor fought back that with the European situation as it is at the moment, that making predictions on anything is very inexact science. On this he is right; until the problems across the channel are sorted, the issues here will remain with us.