The first estimate of UK GDP growth in the final quarter of 2011 was announced at -0.2%… and much wailing and gnashing of teeth ensued. Contrarians must strike an optimistic tone at times like these, so, was 2011 really all that bad?
UK GDP Growth, 2007-2011
It sometimes seems like memories are pretty short. A “flatlining” economy is certainly preferable to what happened in 2008 or 2009.
Macro-economists have spent a lot of time and effort trying to decide what should be done once interest rates hit the dreaded “zero lower bound” – 0% or thereabouts. Much of this was in response to the malaise of the Japanese economy, which has been suffering from low growth and deflation since the early 1990’s. Implicit in much of this discussion is that it is hard for central banks to raise prices without being able to use interest rates as a “tool”.
Here’s a comparison of the UK price level (as measured by the Consumer Price Index) in the months since the Bank of England base rate was lowered to 0.5% in March 2009, versus the equivalent CPI measure for Japan since the Bank of Japan base rate hit 0.5% in September 1995; both indices rebased to 100 on the start month.
UK vs Japan CPI, Price Level over Months since hitting Zero Lower Bound. Source: Timetric.
It seems reasonable to conclude the Bank of England is not having much of a problem “creating inflation”. They make it look easy!
For interest, the 2% jump in the Japan CPI at month 20 on the graph corresponds to an increase in the VAT-like consumption tax from 3% to 5% in April 1997. It took the Bank of Japan four and a half years to depress prices back down to their previous level – the kind of price stability which Jean-Claude Trichet can only dream about.
This woman has just thrown her enviable weight behind the Greek Prime Minister as he battles to form a unity government.
Eva Kaili is a Greek socialist MP, and Ed Miliband might have some hope if he was to take a leaf out of his the book of his socialist brothers in Athens.
Follow the link below to hear an interview with her given to Bloomberg.
For the avoidance of doubt, I fully agree that women are just as capable as men as being politicians (which I don’t consider a very high hurdle for a human to hop over as it happens, but there you go).
(Source: Business Insider)
Banks aren’t benefiting from low Bank of England rates by widening interest margins to boost profits as popularly supposed.
As the fund managers at Money Moves Markets write:
The chart [below] shows estimates of the weighted-average interest rates paid on sterling deposits and charged on sterling loans vis-à-vis the UK non-bank private sector (i.e. M4 deposits and lending).
The average deposit rate has been rising gradually since early 2010, probably reflecting banks competing to attract inflows to replace maturing funding, such as borrowing enabled by the special liquidity scheme.
The average lending rate, by contrast, fell during 2010 and has stabilised in recent months despite the rising cost of deposit funds.
The lending / deposit rate spread, therefore, has fallen to a new low in data extending back to 1998.
Banks: Not ripping us off after all
Yet another thing I called wrong this year. A miracle (/fluke) I’m beating the market.
(Source: Money Moves Markets)
Shock and awe was the order of the day from the monetary policy committee on Thursday as it cranked up the electronic money printing presses and set them whirring faster than anyone expected.
So said the Financial Times.
“Meh”, said the UK stock market, which remains firmly stuck in a rut since the beginning of August:
FTSE 100. Source: Bloomberg
The markets are not pricing in an expansionary boom from this move. Maybe they are wrong, of course. But it is hard to imagine why we should settle for anything less, given the depressed state of the economy:
UK Employment Rate
With the Bank of England having finally re-launched their program of Quantitative Easing, many commentators will again be decrying the Bank’s so-called “inflationary bias”. These will be the same commentators who condemn the Bank for “pumping up” a house price bubble over the last decade.
But has inflation really been so bad? Let’s take a historical perspective. This chart shows the average annualized growth rate of consumer prices, house prices, and earnings, over the last six decades:
Average Compound Annual Growth Rate, By Decade. Source: measuringworth.com, Nationwide
So when was an excess supply of money leading to an excessively fast rise in earnings and consumer prices and asset prices? Not recently, would be my answer.
The US 5 year breakeven rate tells us the market’s expectation for US inflation over the next five years, based on the difference in prices of inflation-linked (TIPS) and nominal bond yields.
It has crashed this week, now signalling expected inflation of around 1.3% each year. This is generally an indication that monetary policy is too tight; the markets were expecting the Federal Reserve to make a credible commitment to loosen monetary policy (for example, with more QE), but instead it has decided to fiddle around the edges with “Operation Twist”.
You can see from the graph below how inflation expectations have fallen since returning to more healthy levels after the “QE2″ program started in November 2010:
US 5 Year Breakeven Rates. Source: Bloomberg
The current forecast of course matches what the equity markets are saying: a long period of economic gloom.
Curiously, whilst the equivalent UK breakeven rate had also been falling up until the beginning of September, the trend has now diverged from the US. Expected RPI inflation over the next five years has risen to 2.3%, from a low of 2.2% at the beginning of the month:
UK 5 Year Breakeven Rates. Source: Bloomberg
As UK “linkers” are priced off RPI not CPI, with the latter being typically 0.5% to 1% below the former, this implies CPI inflation is expected to average below 2% for the next five years. So we could reasonably expect that the Bank of England will ease monetary policy soon to be able to meet the 2% target. This was corroborated by the minutes [PDF] of the Bank of England’s Monetary Policy Committee meeting on September 7th, which were published on Wednesday this week:
For most members, the decision of whether to embark on further monetary easing at this meeting was finely balanced since the weakness and stresses of the past month had significantly strengthened the case for an immediate resumption of asset purchases. For some members, a continuation of the conditions seen over the past month would probably be sufficient to justify an expansion of the asset purchase programme at a subsequent meeting.
Without wishing to indulge too much in schadenfreude, the hopes for the UK economy may not be quite as dire as the outlook for the US. Will equity investors take note?
Is “inflation rising” in the UK? So claims the Guardian, after the July inflation update from the ONS:
Sir Mervyn King shrugged off a fresh rise in inflation on Tuesday when he expressed fears about the impact of turbulence in the financial markets and the debt crisis in the eurozone on an already weak UK economy.
Here’s the relevant wiktionary definition of inflation:
If “inflation” is “rising prices”, “rising inflation” must mean an increase in the rate at which prices are rising. But was there even an “increase in the general level of prices” in July? Well, actually, no. In fact, the price level (as measured by the CPI or RPI indices) has been flat since April:
CPI and RPI Index Levels. Source: ONS
As ever, the concentration on the yearly rate of inflation obscures the underlying data. Thanks to the dip in prices in July 2010 relative to June 2010, an unchanged price level in July 2011 can result in an increase in the yearly rate in that month. Is this significant? I’d call it noise.
The Bank of England are predicting a rise in the yearly rate of inflation to 5% before the end of the year – and the price level is going to have to start ticking upwards again to achieve that.
After a long stream of downward revisions to forecasts for 2011 UK real GDP growth, there have been some tantalizing hints that things might not be quite so bad as the pessimists would have us believe. First, the Bank of England’s August Inflation Report [PDF]; from page 22 (emphasis mine throughout this post):
Revisions to GDP growth can occur several years after the initial release and can be sizable (Chart B). Since 1993, revisions to the first national accounts release of quarterly GDP growth have, on average, been slightly positive. [...]
Overall, the MPC presently judges that current and recent levels of GDP are more likely to be revised up than down once the revisions process is complete (Chart A). The backcast suggests that there is just over a three-in-five chance that the current level of GDP will be revised up by more than 1%, it also incorporates around a one-in-five chance that GDP will be revised down, however.
Here’s the ONS, with today’s figures for construction output in the second quarter [PDF], adding 0.1% to GDP growth in that quarter (every little helps!):
The figures for construction output are used in the calculation of GDP. The estimate of GDP growth for 2011 Q2 (+0.2 per cent) published on 26 July 2011 was based on an early estimate of construction output of +0.5 per cent growth in Q2, based on limited responses from businesses. Given today’s figures for construction output in Q2, GDP growth in Q2 would be revised up by 0.1 percentage points.
Here’s the ONS again, promising some changes to the GDP deflator [PDF] in the National Accounts to be published in October, which will provide revisions for GDP going all the way back to the first quarter of 2010:
The basic theory and expected impact of changing the basis of the prices previously used (RPI) to using price changes from the CPI is that it will raise volume GDP.
Of course, there may also be reasons for further downward revisions to real GDP – only time will tell.
Update: A more appropriate title for this post should be perhaps “What Goes Down Might Get Revised Up And Then Revised Down Again”. The ONS had to re-publish today’s construction figures, after they noticed an “arithmetical error” in the original publication. They now say:
Given today’s figures for construction output in Q2, GDP growth in Q2 would be unchanged.
Still, we can always hope for another revision.
Paraphrased by Paul Kedrosky of Infectious Greed:
Handy and thought-provoking chart from JPMorgan making the case that quantitative easing has had roughly the same effect on income as raising effective taxes by one-third for the average upper-middle-class family with $300k in savings.
Here’s the handy QE2 impact chart in question:
Uncle Scrooge under the cosh
Kedrosky calls it, “The euthanasia of the rentier.”
Accurate, unless the landed rentier in question is invested in seemingly indestructible prime London property.
(Source: Infectious Greed)
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