Having weighed the evidence, I think that the balance of risks associated with tightening “too early”, on the one hand, and “too late”, on the other, has swung materially towards the latter in the past six to nine months. The risks of tightening “too early” have shrunk as growth and, to lesser extent, inflation have shown greater resilience than expected. And if policy tightened “too late”, this could result in a much steeper path of rate rises later on, contrary to the MPC’s collective expectation that Bank Rate would increase ‘at a gradual pace and to a limited extent’.
As the balance point between these risks has shifted over the past 9 months, that has left me judging that a partial withdrawal of the additional policy insurance the MPC put in place last year would be prudent relatively soon, provided the data come in broadly as expected in the period ahead.
Certainly, I think such a tightening is likely to be needed well ahead of current market expectations.
How soon is “relatively soon”? I considered the case for a rate rise at the MPC’s June meeting. I felt then there were strong grounds for holding back until later in the year, for two reasons. First, despite upwards pressure on inflation, there are still few signs of higher wage growth. And despite robust surveys, there is still some chance of a sharper than expected slowing in the economy. Both are reasons for monetary policy not to rush its fences. Nor does it need to do so, given the slow build of nominal pressures in the economy.
Second, there is the election. This has thrown up a dust-cloud of uncertainty. Financial markets-wise, that is manifesting itself in a weaker exchange rate. It is unclear what twists and turns lie ahead, with potentially important implications for asset prices and, at least potentially, confidence among businesses and consumers. I do not think adding a twist or a turn from monetary policy would, in this environment, be especially helpful in building confidence, at least until the dust-cloud has started to settle.
Provided the data are still on track, I do think that beginning the process of withdrawing some of the incremental stimulus provided last August would be prudent moving into the second half of the year.