Double Tightening for the UK?

The markets got a surprise yesterday, when the minutes of the most recent MPC meeting revealed a vote of 7 -1 in favor of keeping rates at current levels. Who was that lone wolf who cast an opposing vote?

Ladies and gentlemen, let me introduce you to Mister Andrew Sentance!

While all eight members voted to keep the asset purchase facility at 200 billion GBP, the split vote on interest rates marked the first time in two years that a member actually voted for a rate hike. Sentance pointed to rising inflation as a reason to hike interest rates by 0.25%, which would bring the base rate to 0.75%. After all, one way to combat rising inflation is to raise interest rates since it would help subdue growth.

Okay, we got it Mr. Sentance, inflation is stubbornly higher than the Bank of England‘s 3% target and refuses to ease but, given the current economic conditions, is a rate hike warranted?

You know what, I’ll bet an arm and a leg that the chance that other voting members of the MPC will side with Sentance is very slim. The most recent report on the labor market showed that the country’s unemployment rate stands at 7.9%. If the BOE starts tightening credit too aggressively, there is a high chance that the UK might be in for an economic disaster.

Aside from that, the central bank also has to bear in mind that the UK government is looking to implement austerity measures soon. As I mentioned earlier this week, the government wants to cut public spending by 25% while hiking value-added taxes to 20%. Imagine how much that could hurt overall economic activity!

If the BOE decides to hike rates, that’d mean some hawkish policies from the central bank on top of the budget cuts from the government. All this tightening might not leave the UK economy enough room to breathe! I mean, they’re already hanging by a thread with a feeble 0.3% GDP growth during the first quarter.

For now, it seems that many are hopeful that both the UK government and the BOE would be able to nurse their economy back to life. In fact, pound pairs staged strong rallies yesterday when the BOE minutes showed a hint of optimism. But would it be able to sustain its gains in the longer term? That depends if the government and the BOE get their acts right! Too much too soon can’t be too good…