The Bank of England’s Monetary Policy Committee announced today that they will be maintaining their current ultra-low interest rate of 0.50% through May and the Quantitative Easing target will remain at £325 billion. The decision should help the Pound to hold onto its recent gains in the currency exchange markets.
The Pound to Euro exchange rate is currently trading at 1.2461
The Pound to US Dollar exchange rate is currently trading at 1.6156
The Pound to Australian Dollar exchange rate is currently trading at 1.5959
The Pound to New Zealand Dollar exchange rate is currently trading at 2.0515
The Bank of England has a remit from the government to bring the rate of inflation below 2.0%. However, the Consumer Price Index (CPI) headline inflation figure continues to hold sticky above the target level. And for the first time in 6 months the figure actually grew in April, from 3.4% to 3.5%.
April’s rising CPI figure proved beneficial for the Pound as it suggested that spending in the economy was picking up. It also gave Sterling an indirect boost as it prompted MPC member and long-standing advocate of Quantitative Easing, Adam Posen, to withdraw his vote for increasing the asset purchasing fund in an attempt to keep inflation under control.
Quantitative Easing serves to prop up the economy when other methods are perceived to be ineffective, but at the same time it proves hyperinflationary, as the value of each GBP is diluted by an exodus of currency into the banking system.
The catastrophic credit crunch of 2008’s global financial crisis has been blamed in part on the uncompetitive nature of the UK economy at the time. A strong pound combined with vast overspending led to a greedy import consumption culture. The Bank of England and the Government have vowed to bring about a transition towards an export-led UK economy. A weaker Pound is good for this as it makes British exports more appealing to importers from overseas – when the Pound is weak the price is cheap and exports can thrive.
For this reason, MPC Chairman Mervyn King and the Bank of England are forced to tread a very fine line between supporting the UK economy whilst keeping the Pound at a competitive level in the global marketplace, and ensuring that inflation remains on target to fall below 2.0% by 2013.
The decision to maintain the current asset purchasing target of £325 billion seems to indicate that the Central Bank’s inflationary fears have taken precedence despite the downbeat UK GDP report for the first 3 months of 2012. In other words, the Central Bank have taken a wait and see approach, they are relying on/hoping that recent improvements in the UK economy will prove sufficient enough to support a sustainable return to growth. This way the heavy inflationary consequences of Quantitative Easing are avoided, and inflation can (hopefully) recommence its steady decline towards their target level.
The decision to hold the interest rate was far more predictable and a little more straight forward. The MPC have frequently voiced their commitment to maintain the ultra-low 0.50% rate for a long period of time. The current consensus between economic analysts suggests that we will not see a rate change until at least the end of 2013, going on 2014-2015. Given the fragility of the UK economy – despite its recent signs of improvement – a premature rate rise could cause the Pound to become overvalued in the international marketplace and the adverse effect on Britain’s exports would be profound.
In conclusion the BoE have got it right. Let’s just hope that the economy carries on growing enough that the MPC do not deem it necessary to intervene anytime in the near future either.
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