FX Daily: Carney stars in the real life version of the movie Speed

24th June 2014

  • ECB’s Nowotny said Monday that the ECB has an interest in slowing the rise in value of the euro as its increase will likely lead to inflation further undershooting the bank’s sub-2% target. (MNI)
  • The Shenzhen government has pledged to stick with house purchase restrictions and differentiated mortgages for purchases this year. The government said the city will continue to curb speculative purchases and promote tax reform in the property market. (MNI)
  • Heilongjiang province in north China has unveiled 65 projects with planned investment of more than CNY300billion in 2014-15 to address the economic slowdown. The focus on infrastructure including railways, roads, airports, irrigation facilities and power generation, as well as public housing, environment protection and projects to promote agricultural production. (Xinhua News Agency)
  • Xu Hongcai, a researcher with the China Centre for International Economic Exchanges, said the economy is on a stabilizing and improving trend in the second quarter because the short-term fine-tuning measures have taken effect. (Financial News)
  • BHP Billiton is shedding 3,000 jobs from its iron ore operations in Western Australia. The job cuts are in response to review by BHP’s external consultants who are assisting the company in ensuring they remain a competitive, world-class operation. (ABC)
  • RBA’s Edwards says the investment phase of Australai’s mining boom wasn’t as big as many think and rebalancing out of it won’t put the economy into recession. (AFR)
  • Australia Consumer Confidence rose 2.4% in the week ending June 22 to 105.7. The index is now up 6% over the last four weeks but remains 10% lower than then news flow around the federal budget began.

Carney takes to the stage today in front of the Treasury Select Committee and members are likely to want to know the reason behind his turnaround in rhetoric. With a slight sense of irony markets will also want to know why it was the BoE was somewhat surprised by “the relatively low probability attached to a Bank Rate increase this year implied by some financial markets”. Since taking over his tenure, Carney introduced two consecutive forward guidance policies to reassure markets that the first increase in rate rises would be slow in coming. In fact when the previous forward guidance metric, the unemployment rate, threatened to fall to its threshold level, the BoE immediately introduced a new forward guidance based on the less transparent concept of spare capacity. The tide began to turn on this consensus view from May with the Committee seeing “considerable uncertainty” around spare capacity estimates and a “range of views” around the outlook for growth. There was also the natural revelation that the slower rates would rise ultimately the sooner they would need to rise. What began as hawkish whispers turned into a change in  overall BoE communication and now a substantial probability of rate rises this year. Two things have been pivotal in this change in views – the pickup in investment growth suggesting a more sustainable recovery and the outlook for growth. The BoE’s constant refrain was that growth would moderate in 2014 as the initial fillip from pent up demand ebbed. Half-way into 2014 there is still no evidence of a slowdown in growth in any forward indicators, and this is especially true for household spending. The UK economy is re-enacting the movie Speed, the economy is accelerating ahead with the brakes shot and if the bus stops- monetary policy tightens sharply- the bomb of a recovery based purely on consumption detonates. Several MPC members have raised concerns about how the economy will react to higher interest rates. Who plays Sandra Bullock and Keanu Reeves in this scenario is yet to be decided!

A lot of focus will likely be given to the exuberance evidence in the housing market and the ease at which the Bank of England handed over this responsibility to the FPC. Macro-prudential measures are an effective way to control a specific industry problem especially one than is largely localised to the London housing market. However sly moneyman have a habit of getting around regulation whereas tighter monetary policy, to quote former Fed Governor Jeremy Stein, “gets in all the cracks”. The BoE is set on overlooking a bubbling housing market to try to regain all the lost output it possibly can from this recovery. Yes it may risk another crisis further down the line, but the cost-benefit weighs in favour of reclaiming as much lost ground as we can this time around.

We wonder if the Treasury Select Committee will ask the tough questions – why has there been no recovery in productivity, does the high level of self-employment and low wage growth suggest something isn’t right in this recovery, why is corporate lending still in negative annual growth rates and where are export growths. The bomb is ticking away under the speeding UK recovery. Will the Treasury Select Committee be able to spot it? It is the same bomb we faced back into 2008, based on highly indebted consumption, external imbalance and now a bubbling housing market. In this movie plot scenario, Mark Carney must try to keep the bus’s- UK economy’s- speed above a certain level to prevent the bomb exploding. His strategy is low and gradual rate rises and this rescue plan will now start this year to prevent the bus unleashing greater havoc on the surrounding city.