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Are We At The Top Of The Interest Rate Cycle

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http://business.timesonline.co.uk/tol/busi...icle2034101.ece

As Britons absorbed the jolt from the Bank of England’s latest touch on the economy’s interest-rate brakes yesterday, borrowers were like fractious children in the back seat of a car on a holiday jaunt. All they wanted to know was: “Are we nearly there yet?”

The question to which households nationwide now want the answer is, have interest rates now peaked. Is this as bad as it is going to get?

Unfortunately for hard-pressed homeowners, the swift answer yesterday from City pundits with a wary eye on the hawkish figure in the driving seat, the Bank of England’s Governor, Mervyn King, was “no”.

Having absorbed the aggressive tone of yesterday’s statement from the Bank, which sounded a warning over inflation risks that “continue to lie to the upside”, a majority of economists concluded that Britain must steel itself for interest rates to climb yet higher, to 6 per cent or more – a level not seen since 2000.

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Guest Charlie The Tramp
Unfortunately for hard-pressed homeowners, the swift answer yesterday from City pundits with a wary eye on the hawkish figure in the driving seat, the Bank of England’s Governor, Mervyn King, was “no”.

I would say the City pundits are saying "no", not the BoE as the thread title states. :unsure:

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Problem is, every time the interest rates go up, yet more foreign capital floods in, and paradoxically yet more inflation pressures emerge. The working people get screwed and priced out of houses first, and eventually basic living costs, and industry collapses, or packs up and leaves en masse, while the remaining wealth in the country gets consolidated into fewer and fewer hands of the already well-off until we essentially regress towards feudalism. New Zealand is leading the slide, and guess what, we are heading down exactly the same path as them!

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Problem is, every time the interest rates go up, yet more foreign capital floods in, and paradoxically yet more inflation pressures emerge. The working people get screwed and priced out of houses first, and eventually basic living costs, and industry collapses, or packs up and leaves en masse, while the remaining wealth in the country gets consolidated into fewer and fewer hands of the already well-off until we essentially regress towards feudalism. New Zealand is leading the slide, and guess what, we are heading down exactly the same path as them!

Bang on!

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Problem is, every time the interest rates go up, yet more foreign capital floods in, and paradoxically yet more inflation pressures emerge. The working people get screwed and priced out of houses first, and eventually basic living costs, and industry collapses, or packs up and leaves en masse, while the remaining wealth in the country gets consolidated into fewer and fewer hands of the already well-off until we essentially regress towards feudalism. New Zealand is leading the slide, and guess what, we are heading down exactly the same path as them!

so how the hell do we stop it?

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Problem is, every time the interest rates go up, yet more foreign capital floods in, and paradoxically yet more inflation pressures emerge. The working people get screwed and priced out of houses first, and eventually basic living costs, and industry collapses, or packs up and leaves en masse, while the remaining wealth in the country gets consolidated into fewer and fewer hands of the already well-off until we essentially regress towards feudalism. New Zealand is leading the slide, and guess what, we are heading down exactly the same path as them!

Inflation is an increase in the money supply. Foreign capital does not increase the UK money supply so is not inflationary. The stronger pound that results means that imports are cheaper and average prices will go down.

The rest of what you say is about right imho. UK prices are rising as a result of an inflating money supply (not foreign capital).

What annoys me most is that the people "printing" all this extra money are private citizens - NOT the government.

i.e. Banks.

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so how the hell do we stop it?

Do what they did in the US. Just stop tightening if you are unsure, even if inflation is forecast to rise futher in the short to medium term. Remember monetary policy is meant to control inflation behaviour 12-24 months ahead, not react to inflation figures that were released last week.

The Bank of Canada forecast inflation in Canada will rise to 3% by the end if this year (headline rate is currently 2.2% and core rate is 2.5%), yet they have been at pains to point out in their recent policy statement that interest rates 'may' only need to rise 'modestly', meaning investors should be paring back their interest rate expectation for Canada. The Bank have rightly taken into their consideration the inflated value of the country's currency, which not only threatens the country's exporters and thus the wider economy (30% of Canada's economy is made up of its exports to the US), but also that the appreciation in the currency will lead to lower imported inflation and thus do the Bank's work for them.

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http://business.timesonline.co.uk/tol/busi...icle2034101.ece

As Britons absorbed the jolt from the Bank of England's latest touch on the economy's interest-rate brakes yesterday, borrowers were like fractious children in the back seat of a car on a holiday jaunt. All they wanted to know was: "Are we nearly there yet?"

The question to which households nationwide now want the answer is, have interest rates now peaked. Is this as bad as it is going to get?

Unfortunately for hard-pressed homeowners, the swift answer yesterday from City pundits with a wary eye on the hawkish figure in the driving seat, the Bank of England's Governor, Mervyn King, was "no".

Having absorbed the aggressive tone of yesterday's statement from the Bank, which sounded a warning over inflation risks that "continue to lie to the upside", a majority of economists concluded that Britain must steel itself for interest rates to climb yet higher, to 6 per cent or more – a level not seen since 2000.

I don,t think we are at the top of the interest cycle yet as because as well as Gordy wanting to slow HPI (which is only having a limited effect at the moment),there is a lot of other inflation busting factors around the corner. Price of oil.

Price of food.

Price of insurance.

To name a few, also most people think the latest IR rises are a joke that will go away quickly and will have no longterm effect on them so continue to borrow.

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so how the hell do we stop it?

You don't. Ride the inflationary wave with some NS&I certs and then get out of sterling when everything takes a nosedive. Do it like the professionals!

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Remember monetary policy is meant to control inflation behaviour 12-24 months ahead, not react to inflation figures that were released last week.

The only thing with trying to control inflationary behaviour 24 months in advance is that you have to do just that - 24 months ago the BOE cut interest rates. I do not see any deflationary factors on the horizon, in fact it all seems to be the opposite so the BOE should continue to rise for at least another year and bring rates up to 7% If after a year they need to hold or drop then that is preferable to the situation we are now in due to a premature cut in already accomadative rates 24 months ago.

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If they cut rates, the pound will fall and inflation will then be imported.

What should worry the BoE is the fact that even with (relatively) high interest rates and currency, the inflation risks still lie 'on the upside.' If the pound falls substantially then the inflation rate would be much higher.

All the while, with these high rates, manufacturing rots and we lose competitiveness.

And it is doubtful whether interest rate increases will do much to stop imported raw material and foodstuff inflation anyway.

It's a b*gger of a situation to be in.

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It's a b*gger of a situation to be in.

The coming events will most probably cause the demise of the current rate setting regime.

Deregulation of international currency controls renders ratesetters relatively impotent. As an esteemed new poster has pointed out, central banks can do little in the face of concerted movements by currency traders. I wonder if CBs roles are, in truth, all about stopping a herd forming across currency desks and going on the stampede - this is achieved with hot air as much as the overnight rate.

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The only thing with trying to control inflationary behaviour 24 months in advance is that you have to do just that - 24 months ago the BOE cut interest rates. I do not see any deflationary factors on the horizon, in fact it all seems to be the opposite so the BOE should continue to rise for at least another year and bring rates up to 7% If after a year they need to hold or drop then that is preferable to the situation we are now in due to a premature cut in already accomadative rates 24 months ago.

It was indeed a mistake when they cut rates in August 2005. But there are plenty of compelling reasons why the MPC might stop raising rates now – ok, let’s allow for one more rate rise to 6% in the months ahead:

1) Wage rises in the UK are under control, despite the fact the UK has a tight labour market and an economy that is growing above its long run growth potential. To base monetary policy now on an assumption that the labour market will grow even tighter in the long run would be foolish. There are more downside risks to the labour market than upside ones and this is what MPC members need to consider.

2) Mortgage interest repayments have risen 30% in 12 months and this is going to have to take its toll on home owners at some point. One can only extend overdraft and credit card facilities to maintain the same lifestyle for a certain period of time. Eventually reality will strike home, or the sheriff will come knocking, and UK consumption will be forced to slow down. This is what monetary policy is intended to achieve after all. Going too far and tightening rates too much will mean a much greater slowdown than the MPC would have intended and could easily send the economy spiraling into recession. The notion that you can add hikes this month and get the desired effect in a month or two and then cut rates again is pure folly. A Central Bank that does that is toying with the economy and looking for catastrophe. You can't turn consumption on and off like a tap. You don’t even know what real consumption is for several months after the event.

3) UK inflation is lower than that in the US and Canada and with all 3 economies facing the same global inflation pressures, why does the Bank of England need to be much more vigilant than the other two. In fact with the dollar so weak, the inflation outlook for the US looks far less healthy than that in the UK.

4) Energy costs are at or near a lifetime high and have elevated the inflation rates that we see today. If energy costs dip in the medium to long run, then the contribution of energy to inflation, which is currently significant, will also ease over this period. If energy prices are expected to rise further - say oil to go to $100 a barrel, this is going to slow down the overall global economy and cut consumption across the board. Higher energy inflation should be offset by lower consumption in other areas.

5) Sterling. Sterling's 20% meteoric rise against the dollar and 25% rise against the yen and somewhat smaller appreciations against the franc and the euro, must be resulting in lower import prices. These benefits are often slow to be passed onto consumers, until the lower import prices are seen to be firmly anchored for a sustained period. Sterling's strength, if it continues, should dampen longer run inflation risks. The MPC have alluded to this point several times in recent meetings.

6) Interest rate impact on business. Interest rates are not just set for homeowners, for they also determine the repayment costs for businesses leveraged by debt. Moving rates too quickly will seriously hamper business and have the impact of reducing actual business investment, which would damage the economy going forward. It will also deter foreign companies from setting up operations in the UK, if they intend to finance the operation with debt borrowed locally. To support business development the MPC will not want to raise interest rates unless it is absolutely essential.

I could go on…

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I could go on…

Thanks for the reply Sebastian, but I doubt we will see much in the way of deflation coming from imports and if anything China will be offsetting that by raising the price of their goods. We also do have high inflation so 6% is still too low as we are not in the situation that NZ is suffering from – any peak in IR's at this stage would dent our currency and bring with it more inflation – that is why I believe 7% by 2009 followed by a pause would be a better option than sitting on the fence at 6%.

Regarding the growth in money supply what is your take on that?

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Thanks for the reply Sebastian, but I doubt we will see much in the way of deflation coming from imports and if anything China will be offsetting that by raising the price of their goods. We also do have high inflation so 6% is still too low as we are not in the situation that NZ is suffering from – any peak in IR's at this stage would dent our currency and bring with it more inflation – that is why I believe 7% by 2009 followed by a pause would be a better option than sitting on the fence at 6%.

Regarding the growth in money supply what is your take on that?

China's yuan is linked to the US dollar, so even if China rose their prices by 10% across the spectrum in the last year, their imports would still be cheaper now in the UK than they were at this time last year. China is hardly going to differentiate their prices on a country by country basis, so the exchange rate mechanism does come into play. And the UK are doing very well out of that right now.

Does anyone in their right mind want to have the IRs New Zealand has? The UK should be compared to the euro area and not New Zealand.

Sterling was a much weaker currency over a year ago, when inflation was running lower, so the relationship between a currency's value and inflation is far from a perfect one. Rates could peak at the current level or at 6% and then pause for 12 months, before continuing an upward or downward trend. That is not sitting on the fence but merely allowing the economy to draw breath and ensuring IRs don't push the economy over the brink.

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Thanks for that Sebastian, how about the growth in money supply?

I still think that stopping at 6% and then waiting a year for the results is dangerous when inflation is stubbornly above target – also the recent rise in oil has been masked by the drop in gas prices. Unless oil falls back or the government decide to lower their tax take (they are doing the opposite in Autumn) we will see inflation on everything that requires transportation.

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Thanks for that Sebastian, how about the growth in money supply?

I still think that stopping at 6% and then waiting a year for the results is dangerous when inflation is stubbornly above target – also the recent rise in oil has been masked by the drop in gas prices. Unless oil falls back or the government decide to lower their tax take (they are doing the opposite in Autumn) we will see inflation on everything that requires transportation.

Well, it is even more difficult to draw a real relationship between money supply and inflation/monetary policy. Many economists and central bankers dismiss the money supply argument entirely. If you look at the euro area, money supply has been growing higher and higher, even though the ECB has raised interest rates 8 times in 18 months. Yet inflation has been held below 2% since the last quarter of 2006. One can conclude that higher interest rates has made little or no difference to money growth, while at the same time money growth has failed to fuel inflation.

If the bulk of money supply is going to business start-ups and a broadening of the liquidity pool for greedy investors, then the Joe Soap on the street is not seeing a lot of it. And it is Joe Soap that the MPC targets when it rises interest rates to curb his and Mrs Soap's spending and excesses. If the Soaps are none the richer from the growth in money supply and they have not become tireless shopaholics, then the MPC are really none the wiser as to how the growth in money supply is really impacting inflation. So best to ignore it and just ensure proper regulatory guidelines and controls are in place for banks that give out money. Money growth is a red herring and Central Banks themselves don't understand its significance.

Edited by Sebastian

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If you look at the euro area, money supply has been growing higher and higher, even though the ECB has raised interest rates 8 times in 18 months. Yet inflation has been held below 2% since the last quarter of 2006. One can conclude that higher interest rates has made little or no difference to money growth, while at the same time money growth has failed to fuel inflation.

But isn't there a delay between the growth in money supply and inflationary pressures? Just like the delay in IR's and their effect on inflation?

Your point about it being okay as long as it doesn't get to the masses makes sense but it is still a very confusing issue. :wacko:

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But isn't there a delay between the growth in money supply and inflationary pressures? Just like the delay in IR's and their effect on inflation?

Your point about it being okay as long as it doesn't get to the masses makes sense but it is still a very confusing issue. :wacko:

Yeah there is a delay. Becuase the pathways from debt creation to the man in the street's wallet are as numerous as they are varied, people cannot immediately observe and measure the realtionship and therefore decide one does not exist at all. The money now exists and eventually it will mean more money per unit of goods and inflation will be felt accordingly (and of course proportionally).

I don't for a minute believe the BOE when it says it can't quite understand the relationship between M4 and inflation, mind you l suppose they've only been in the job for several hundred years. It is merely expedient for them to calm the population whilst they steal peoples wealth through inflation.

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But isn't there a delay between the growth in money supply and inflationary pressures? Just like the delay in IR's and their effect on inflation?

Your point about it being okay as long as it doesn't get to the masses makes sense but it is still a very confusing issue. :wacko:

Confusing I agree with you. But I am one who remains unconvinced that there is a clear correlation between money supply and inflation. We also have to remember that if a country has a current account deficit and a widening one, then it needs to produce more of its own currency to fund the deficit - The UK and the US both have problems with widening current account deficits.

If money supply is growing because of us living beyond our means - exending overdrafts, taking out term loans, getting 100% mortgages etc, then the money is usually spent fairly promptly and will be picked up in sales figures very quickly. If demand grows rapidly as evidenced by growth in sales, inflation will follow very quickly.

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Inflation is an increase in the money supply. Foreign capital does not increase the UK money supply so is not inflationary. The stronger pound that results means that imports are cheaper and average prices will go down.

The rest of what you say is about right imho. UK prices are rising as a result of an inflating money supply (not foreign capital).

What annoys me most is that the people "printing" all this extra money are private citizens - NOT the government.

i.e. Banks.

I disagree, the inflow of foreign capital DOES contribute to the increase in UK money supply, albeit a little indirectly. If capital is pouring into a country, a lot of it ends up in debt instruments, whether they be Bonds/Gilts, MBS, CDOs, whatever gives them the return they are seeking. So with a huge demand for these debt instruments you end up with easy credit and a resultant huge issuance of debt, and that is indeed raising money supply and very inflationary. Exactly what we have seen with the carry trade, for example..

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