May 12, 2014 5:24 pm

Investors bet on BoE acting to ease property market and raise rates

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Bank Of England Headquarters Ahead Of Policy Meeting...A City of London griffin decorates a street lamp outside the Bank of England in London, U.K., on Monday, June 25, 2012. Bank of England policy maker David Miles said officials need to restart their bond-purchase program to get an economic recovery underway as the central bank edges closer to his view. Photographer: Jason Alden/Bloomberg©Bloomberg

Investors are betting the Bank of England will confirm on Wednesday that it will act to take some heat out of the housing market and raise interest rates within a year.

The new indications about monetary policy will come in the bank’s quarterly inflation report. The report is also expected to explain for the first time what changes to its “forward guidance” on interest rates will mean in practice for millions of savers and borrowers.

As the economic recovery gathers pace, the CBI employers’ organisation became the latest body to forecast a quarter-point rise in interest rates at the start of next year. Participants in the financial markets have the same view.

Simon Wells of HSBC said: “The challenge for policy makers is to stop asset price bubbles developing, while keeping interest rates low.”

Economists do not expect large changes in the BoE’s economic forecasts, but say the central bank needs to explain its latest thinking on the amount of spare capacity in the economy and how it can cool the property market without harming the economic recovery.

In its last report in February, the BoE already predicted strong economic growth, of 3.4 per cent this year, and that inflation would remain under control. It indicated these forecasts were based on an assumption that interest rates would rise around the time of the general election in May 2015.

Since February, growth and inflation data have been sufficiently close to the BoE’s forecasts not to require large changes in the outlook.

However, employment has grown strongly against output growth that has been as expected, suggesting productivity is weak and that unemployed are getting back into work faster than the BoE predicted.

Britain’s productivity – output per worker – has been the worst of leading economies over the past five years. If the Monetary Policy Committee says that slack in the economy has fallen from its February estimate of 1 to 1.5 per cent of national income, as economists expect, it will signal a significant chance of earlier rate rises.

Even though the link between spare economic capacity and future inflation is difficult to measure, the MPC will be concerned that as it is used up, risks of higher inflation and economic instability rise.

Rob Wood, chief UK economist at Berenberg Bank, said the BoE will not make any explicit announcements, but “tacitly accept . . . that the first [rate rise] will come in the first quarter of 2015 instead of the Q2 date they had planned on three months ago”.

Any interest rate changes will also come against the backdrop of a housing market that is gathering momentum across the UK, prompting Sir Jon Cunliffe, deputy BoE governor, to say price rises were making warning lights flash at the central bank.

Although specific policies on mortgage lending will be formulated by the BoE’s Financial Policy Committee in June, under its new “one Bank” strategy the MPC and FPC are meeting regularly to try to make policy more cohesive.

When he presents the inflation report, Mark Carney, the bank’s governor, will need to spell out whether its economic forecasts assume the FPC will act in June.

That committee has the power to change macroprudential policies, such as enforcing tougher underwriting standards on mortgage lending or putting limits on mortgage availability, which some think might be sufficient to cool the housing market without interest rate rises.

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