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Bank of England rate rise and Fed appointment

03 November 2017

 What impact has the Bank of England rate rise had?

Yesterday the Bank of England ("BoE") raised their base rate for the first time in ten years. For many younger readers this may be the first rate rise in their working life; as such, there is some novelty factor that may make reaction harder to predict.  Governor Mark Carney in the press conference described this as taking the foot off the accelerator and we should view this move in that light. It is not designed to put a brake on the economy. The fall in unemployment has removed much of the slack in the economy giving them room to make a move now. There had been warnings that rates would move up, so this was not a surprise for markets. If anything, the language of the statement was less aggressive. They now expect rates to rise only twice over the next three years, taking the Base rate to 1%, hardly tight by historic standards and giving plenty of time for people to become accustomed to the idea of higher rates.

Variable rate mortgages are likely to see rates rise but the Governor pointed out that 60% of mortgages are on a fixed rate.  Fixed rate offers had already moved up a little ahead of the announcement but households with five year fixed rates maturing now may still be able to reset about 2% lower. The impact for 2-year mortgages is less significant as they may be able to refinance at 0.3% lower rates. The impact of the rate hike on household finances will be muted with little discernible impact on consumer spending for the time being.

The BoE noted that wages have been rising less than inflation but they expect inflation to have peaked in October and it to come back slowly as the impact of post Brexit fall in sterling diminishes. The regional agents that the central bank employs around the country liaise directly with businesses and, while they expected little wage growth this year, they do expect it to pick up next year. However, this is dependent on productivity growth which has been consistently disappointing for some years.

Markets appear to have taken their lead from a slightly softer tone and on the day sterling fell 1.4% against the dollar, 1.7% against the euro, ten year gilts yields were down 0.08% and the FTSE 100 index has moved up 0.8%. All moves should be positive for most sterling denominated portfolios.

Trump has been highly critical of the Federal Reserve, so why is he nominating a continuity candidate in the form of Jerome "Jay" Powell for the chair?

In his election campaign, Donald Trump was highly critical of Janet Yellen who he said had politicised interest rate decisions and was acting to prop up the Obama presidency. When campaigning, he threatened radical changes at the Federal Reserve ("Fed").Hence, it is surprising that he selected Jay Powell, who was appointed to the Fed board by Obama, as the new chair. Powell has always agreed with Yellen on interest rates, suggesting that he did not want to upset the status quo.

The nomination was widely rumoured in the press earlier in the week and greeted with a degree of relief after a number of more hawkish names had been in the running. Short of reappointing Yellen, this appeared to be the closest thing to a continuity candidate available. Powell has a reputation for moderation and for seeking a consensus, characteristics that are unlikely to challenge the loose financial conditions that are present. However, his background is quite different to his two immediate predecessors. Yellen and Bernanke both had careers in academia having been professors at Berkley and Princeton respectively. Powell has had a career in private equity at Carlyle group and is a wealthy man in his own right. As a result, he comes with more of a market background and thus may make reforming bank regulation easier than Yellen would have done.

To conclude, Powell's appointment probably makes little difference to monetary policy, which will suit Trump who would like to take credit for the strong economy and stock markets, despite having possibly had more to do with the situation he inherited from Obama rather than changes he has made. Equally, he may help Trump make some of the changes in bank regulation that Trump has promised. For now, this has little impact on our view of markets but in the months to come we will watch his comments closely for signs of moves in a different direction.

 

 

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