Minutes of Monetary Policy committee meeting (2005-12-07)
mpc:
MINUTES OF THE MONETARY POLICY COMMITTEE MEETING HELD ON 7-8 DECEMBER 2005
1
Before turning to its immediate policy decision, the Committee discussed developments in
financial markets; the international economy; money, credit, demand and output; and the labour
market, costs and prices.
mpc: 2
Short-term interest rates had fallen a little in both the United Kingdom and the United States. In
the United Kingdom, the yield curve was broadly flat. In contrast, a majority of economists polled in
the latest Reuters survey expected the UK official rate to fall by at least 0.25 percentage points during
the coming twelve months.
mpc: 3
In the euro area, the European Central Bank (ECB) had increased official rates by 0.25
percentage points at its meeting on 1 December. The move had been fully priced in by financial
markets ahead of the ECB's interest rate announcement, and so had not affected the euro-area yield
curve. Financial markets were pricing in two further 0.25 percentage point increases in euro-area
official rates during 2006.
mpc: 4
Real long-term forward interest rates had edged lower in the United Kingdom and euro area over
the month, but had risen a little in the United States. More generally, real long rates in most advanced
economies were at or around historically low levels. As discussed in previous Committee meetings,
those low levels could reflect some combination of higher planned saving, lower desired investment or
excess liquidity associated with loose global monetary policy. In the United Kingdom, it was possible
that the low level of long rates partly reflected pension fund regulation.
mpc: 5
Equity prices had continued to rise, with the FTSE All-Share index more than 2% higher on the
month. Strong corporate earnings news, along with merger activity, appeared to have been among the
factors driving up equity prices. The general buoyancy of asset prices could perhaps be related to high
levels of global liquidity. On the foreign exchange markets, sterling's effective exchange rate index
(ERI) was down around ½% on the month, broadly consistent with movements in relative interest
rates.
mpc:
The international economy
mpc: 6
News on international activity had been encouraging. In the euro area, GDP had increased by a
stronger-than-expected 0.6% in Q3, largely reflecting a pickup in investment growth. Although
consumption growth remained relatively weak, it had edged up to 0.3%. Geographically, the increase
in GDP growth had been broadly based, and near-term economic prospects looked better than they had
for some time. The Purchasing Managers Indices (PMIs) for manufacturing and services had risen to a
little above their long-term averages; lending to households and corporates continued to strengthen;
consumer confidence and employment were rising.
mpc: 7
In the United States, economic growth had continued apace despite the disruption from
Hurricanes Katrina and Rita and the monetary tightening by the Federal Reserve. In Q3, quarterly
GDP growth had been revised up by 0.2 percentage points to 1.1%. Consumption had grown steadily.
Looking ahead to Q4, the surveys of purchasing managers by the Institute for Supply Management
(ISM) suggested a slight moderation in GDP growth. Non-farm payrolls had risen in November
following hurricane-related weakness in the previous two months. Consumer confidence had also
recovered.
mpc: 8
In Asia, Q3 GDP growth rates had come in slightly above or in line with expectations, and the
outlook for Q4 was for growth to continue at a similar rate.
mpc: 9
The spot oil price had eased further, with Brent crude trading at around $55 a barrel. Oil futures
prices had fallen slightly on the month. In the United States and the euro area, the recent easing in oil
prices had contributed to modest declines in headline producer price and consumer price inflation.
Excluding energy and food, US and euro-area consumer price inflation measures had been broadly
stable. As yet, there was little sign that the strength in energy prices during 2005 had fed through into
higher wage claims internationally.
Money, credit, demand and output
mpc: 10 The annual growth rate of aggregate M4 had risen by 0.3 percentage points in October to 11.6%,
the highest since 1997. Secured lending growth was unchanged at an annual rate of just over 10%.
Growth in unsecured lending had slowed. In November, growth in notes and coin had remained
subdued, consistent with the sluggishness of retail sales.
mpc: 11 Since the Committee's November meeting, the Office for National Statistics had published the
UK Output, Income and Expenditure release for Q3. Annual GDP growth had been revised up by 0.1
percentage points to 1.7%. Quarterly growth had been left unrevised at 0.4%. Excluding output of the
oil sector, quarterly GDP growth had been 0.6%. It seemed as though the low point in non-oil output
growth had been in Q1, with some gradual recovery since.
mpc: 12 In the services sector, business surveys continued to point to stronger growth than the official
data. As the Committee had noted in its previous meeting, the size of that discrepancy had not been
historically large, but the degree of persistence of the discrepancy had been more unusual. One
possibility was that the statistical relationship between the survey balances and the official figures had
changed. This could be the case if, for example, there had been a change in the dispersion of growth
rates across service sector companies. Evidence to support that hypothesis was, however, limited.
Overall, the Committee placed some weight on both the official data and the business surveys, and
noted that the surveys continued to point to solid growth in the service sector in Q4.
mpc: 13 Activity in the manufacturing sector had been subdued. Official estimates of manufacturing
output pointed to a 0.7% fall in October. Business surveys had been a little more positive, but still
indicated slow growth. This was somewhat surprising, given the strength of the international economy
and the growth in export orders suggested by recent surveys, and perhaps implied that the
manufacturing figures reflected weakness in domestic demand.
mpc: 14 The latest Q3 GDP release suggested a gradual recovery in consumption growth, weak growth in
investment, a small negative contribution from net trade and an increase in stockbuilding. However,
given the likelihood of revisions, it would be unwise to attach much weight to the expenditure
breakdown at this stage of the data cycle.
mpc: 15 Consumption growth had edged up to 0.5% in Q3, according to the latest GDP release, broadly
in line with the November
Inflation Report. Indicators of household spending in Q4 had been mixed.
There had been some encouraging signs: three-month on three-month growth in retail sales volumes
had risen to 0.7% in October, according to official figures; the British Retail Consortium November
survey had pointed to a year-on-year increase in retail sales values of almost 5%; and reports from the
Bank's regional Agents had suggested a tentative recovery in consumption growth. In contrast, the
November CBI
Distributive Trades Survey had remained very weak, with the reported retailers' sales
balance falling to its lowest in the survey's 22-year history. Private car sales were significantly lower
than in 2004.
mpc: 16 A number of influences had probably restrained consumption growth over the past year slower
real post-tax income growth, the weaker housing market and the impact of past increases in the official
interest rate. The Committee discussed the outlook for these various factors. With the whole-
economy tax ratio likely to rise less steeply in the future than in the recent past, post-tax income
growth was likely to recover gradually. Near-term prospects for the housing market appeared to have
improved, with both activity and prices seemingly stronger. Financial asset prices were also likely to
prove supportive of consumption. The impact of past rises in the official interest rate was likely to
dissipate over the forecast period. And, while there had recently been increases in some credit card
lending rates, there had also been a gentle easing in average mortgage rates during the past few
months. So overall it seemed likely that consumption growth would continue to edge up towards its
historical average.
mpc: 17 Business investment had risen by just 0.3% in Q3, according to official estimates. That was a
weaker outturn than envisaged in the November
Inflation Report. But official investment estimates
were prone to substantial revision. Past experience suggested that investment data at this stage of the
cycle tended to be revised upwards, although there was considerable variation around the mean
revision. That said, the Committee noted that several pieces of evidence were consistent with a
subdued short-term outlook. Investment intentions had weakened, according to business surveys and
the Bank's regional Agents. Capacity pressures also appeared to have eased, which would tend to
reduce the incentives for companies to invest.
mpc: 18 The Government's
Pre-Budget Report (PBR) had been published on 5 December. The
projections for GDP growth embodied in the Government's fiscal forecasts were a little lower than the
November
Inflation Report central projections for FY2005/06 and FY2006/07. A preliminary
assessment suggested that the fiscal projections did not contain substantial news relative to the 2005
Budget. Nevertheless, it was possible that the composition of projected government spending and
receipts would have implications for the Committee's forecast. Further analysis of the detailed fiscal
projections contained in the PBR was therefore needed.
mpc:
The labour market, costs and prices
mpc: 19 There had been little news from the labour market. On the Labour Force Survey measure, the
employment rate had edged up to 60.2% in the three months to September. Surveys had painted a
mixed picture: the Recruitment and Employment Confederation (REC) had pointed to declining staff
availability, but there had been a slight softening in the labour market according to the Chartered
Institute of Purchasing and Supply (CIPS). The latest labour market reports from the Bank's regional
Agents were also relatively soft. The Agents had carried out a special survey on migration during
November. The results of that survey were consistent with the Committee's view that migration had
been playing an increasingly important role in the UK labour market in the recent past, and was likely
to continue to do so in the near future.
mpc: 20 As the Committee had discussed in previous meetings, the relative robustness of the labour
market sat uncomfortably with the weakness of the output data. Together, these data implied that
measured annual labour productivity growth, on a per hour basis, had fallen to its lowest since 1989.
There were a number of possible explanations. It could be that output growth had been under-
recorded. Employment growth may have been over-recorded, perhaps because previously unmeasured
migrant labour was now being picked up in official statistics. The greater use of relatively low-cost
migrant labour may have reduced the incentives for companies to improve productivity; alternatively,
there may have been a decline in trend productivity growth, although this appeared unlikely. Finally,
companies may have been hoarding labour in the belief that the output slowdown would prove
temporary. If this latter explanation were correct, it was puzzling that there had been no fall in average
hours worked, although this could reflect measurement issues.
mpc: 21 There were, as yet, no signs that employees had been bidding up wages in response to higher
energy prices. Regular pay growth (that is, pay excluding bonuses) was 4.0% in Q3, unchanged from
Q2. Settlements remained broadly flat. However, it was a quiet time of the year for pay settlements,
and more information would be available in the first quarter of 2006.
mpc: 22 Import price inflation had continued to push higher, particularly for goods. However,
manufacturing input price inflation had eased to an annual rate of 7.5% in October; manufacturing
output price inflation excluding duties (PPIY) had fallen to an annual rate of 2.7%. That picture of
easing pipeline pricing pressures in the manufacturing sector was broadly consistent with business
surveys. Surveys also suggested a gentle moderation in input price inflation in the services sector.
mpc: 23 Wholesale gas prices had increased sharply in early December, although they had eased back a
little ahead of the Committee's meeting. This spike in the gas price reflected high demand related to
the cold weather, combined with limited supply. It was surprising that there had not been greater
arbitrage between the gas market in the United Kingdom, where prices had been relatively high, and
the market in Continental Europe, where gas prices had been lower. The Committee noted that if there
continued to be limited arbitrage between the UK and European gas markets, gas prices in the United
Kingdom could prove fairly sensitive to relatively small changes in UK gas demand.
mpc: 24 If the recent rise in the gas price were to be short-lived, it was unlikely to have a material effect
on the outlook for either economic activity or inflation. But a sustained increase in the gas price could
lead to shutdowns among heavy industrial users these users accounted for only a relatively small
proportion of UK GDP. In addition, if high gas prices were sustained, they could be passed on through
the supply chain, and so affect consumer price inflation.
mpc: 25 CPI inflation had been 2.3% in October. In line with pre-release arrangements, an advance
estimate of CPI inflation for November had been provided to the Governor ahead of publication. This
indicated that inflation had fallen to 2.1%.
mpc:
The immediate policy decision
mpc: 26 There had been little news from financial markets, with UK short-term and long-term rates a
little lower, equity prices a little higher and the sterling ERI about ½% below its level at the November
meeting. More generally, asset prices had been buoyant for some time. Developments in the
international economy had been positive, with growth in the United Kingdom's main export markets at
least as strong as implied by the central projection in the November
Inflation Report. Although oil
prices had eased since the Committee's last meeting, they remained substantially above their levels a
year ago. In the United Kingdom, growth in non-oil GDP appeared to have been recovering gradually
since the beginning of the year. Prospects for demand and output in Q4 were mixed. CPI inflation had
fallen back a little, broadly in line with the November
Inflation Report central projection. And, so far,
wage growth had remained well contained.
mpc: 27 Against this backdrop, there were several arguments in favour of leaving the repo rate
unchanged, to which different members attached different weights.
mpc: 28 Growth appeared to be recovering broadly in line with the central projection in the November
Inflation Report. There had been some tentative signs of a modest pickup in consumption, although it
would be some time before reliable figures about spending over the Christmas and New Year period
were available. Both the housing market and the international economy had been a little stronger than
implied by the central projection in the November
Report. But the recent weakness in manufacturing
perhaps posed a near-term downside risk to the central projection for GDP. Some members remained
of the view that the risks to the central projection for GDP were weighted somewhat to the downside in
the second half of the forecast period, reflecting doubts about the profiles for investment and net trade.
mpc: 29 Inflation had fallen from its peak in September, broadly in line with the Committee's
expectations. But some of the particular uncertainties surrounding the short-term path for inflation
identified in the November
Inflation Report remained. For example, it was too soon to be confident
that the oil price had peaked, and it was unclear how the gas price would evolve in the coming months.
It was also too early to conclude that there would be no wage response to the past pickup in inflation.
In this regard, although it was encouraging that there had been little evidence that wage growth had
risen in response to higher energy prices, January was an important month for pay settlements. In
addition, there were uncertainties surrounding the likely evolution of import prices and the exchange
rate, which were important influences on the outlook for UK inflation. So, overall, it was appropriate
to leave the repo rate unchanged. For some members, no change was also justified as the stance of
monetary policy was currently mildly accommodative; this was appropriate as the economy appeared
to be operating at a little below capacity, and inflation expectations seemed to be well anchored to the
target.
mpc: 30 For one member, there was a case for an immediate reduction in the repo rate. While the
November
Inflation Report profile for consumption growth
appeared plausible, the central projections
for investment growth and net trade seemed optimistic. Business surveys suggested a subdued outlook
for investment, as did the recent easing in capacity pressures. The November
Inflation Report implied
that net trade was likely to make a more positive contribution to growth in the future than it had done
in the past. In addition, the growth of government consumption spending was likely to slow from
2007. Pipeline inflation pressures were also easing, with output price inflation moving lower. And
there were no signs that the rapid rise in both oil prices and average tax rates since early 2004 had fed
through into wages. Taken together, these arguments implied that CPI inflation was likely to
undershoot the 2% target in the medium term.
mpc: 31 The Governor invited members to vote on the proposition that the repo rate should be
maintained at 4.5%. Eight members of the Committee (the Governor, Rachel Lomax, Andrew Large,
Kate Barker, Charles Bean, Richard Lambert, Paul Tucker and David Walton) voted in favour.
Stephen Nickell voted against, preferring a reduction in the repo rate of 25 basis points.
mpc: 32 The following members of the Committee were present: Mervyn King, Governor Rachel Lomax, Deputy Governor responsible for monetary policy Andrew Large, Deputy Governor responsible for financial stability Kate Barker Charles Bean Richard Lambert Stephen Nickell Paul Tucker David Walton Nicholas Macpherson was present as the Treasury representative.