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The Ken-and-Eddy show produces a damp ... |
The Ken-and-Eddy show produces a damp squibThe 0,25% rise in Bank rate has reversed the policy to restore 'feel good' in the UK KEN-and-Eddy Day produced a surprise for the London financial markets this month. Breaking a recent run of polite disagreement, the monthly meeting between the Chancellor of the Exchequer, Kenneth Clarke, and the governor of the Bank of England, Eddy George, concluded in harmony - and an increase in interest rates. The 25 basis points (0,25 of 1%) rise in Bank base rate to 6% reversed Clarke's contentious cut of the same order in June and the policy trend aimed at restoring the elusive "feel-good" factor among British consumers ahead of a general election next May. That policy saw the basic cost of borrowing fall in four steps from December 1995 by 100 basis points to 5,75%. And for much of this year the minutes of the Ken-and-Eddy Day meeting, published after a six week interval, have shown that the Bank of England was concerned about incipient inflation. Equally they have shown that the Bank's own forecasts for the rate of inflation had proved too high. Thus Clarke was able to press on with popular interest rate cuts. For millions of homeowners with mortgages, the cheaper cost of borrowing helped offset tax increases and slowly began to put life back into the depressed property market. But Clarke's monetary policy hardly sparked a runaway boom. Britain's 2,2% economic growth rate this year looks good only when compared with that of its blighted European partners. Consumers have proved resistant to price increases. The core rate of inflation has been held at 2,9%.
The case for a touch on the brakes now is that it will nip possible inflation in the bud, according to Clarke. In doing so he seems to have finally accepted that a high growth of 10% in the broad measure of money supply (M4) combined with real economic expansion of just over 2% this year and perhaps 3,4% in 1997 is not compatible with low inflation. There are also signs of rising consumer confidence: retail sales are up by 3,2% in the last three months and forecasts for 1997 point to 4% even after the Chancellor's action. Where it will make a big difference is in sterling's exchange rate. It has been climbing recently and the interest rate rise has pushed it higher, taking the pound's trade weighted value up by nearly 9% since January. At 90,2 the index of sterling against a basket of the main currencies was at its best level for 30 months. A strong pound will help dampen inflation as imports become cheaper. It bodes ill, however, for British industry. In fact it is calculated that the 8% rise in sterling's average value affects on the broad economy in the same way that a 200-basis points hike in interest rates would. Hence there are fears that while consumers may enjoy some benefits, manufacturing industry and exporters face a squeeze which will see investment fall and jobs put at risk. Additionally the danger exists that building societies and banks may raise mortgage rates. So far they are holding at 7%, but some will review policy after Clarke's Budget later this month. Clarke vigorously denied any connection between his monetary policy and the Budget but Conservative MPs hope that this latest tightening will give him room to make some tax cuts ahead of the elections.
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