Sterling
While productivity and the strength of the domestic recovery is one piece of the puzzle, sterling is the other.
As Carney pointed out there has been a big move up in sterling, around 20% on a trade weighted basis since March 2013 “and a notable chunk of which came between May and today”.
Explaining that there is substantial exchange rate pass through in the inflation forecast, Carney added: “There is no question the persistent strength of sterling is having an influence on policy.”
For Flanders, the movement in sterling is a clear indication of why the Bank would not want investors to get ahead of themselves.
“With monetary policy still extraordinarily loose in the major developed economies, the upward move in sterling in the past two months shows how even a modest move in rate expectations can have a dramatic impact on the currency.
“For a very open economy like the UK that represents a tightening in monetary conditions in its own right as well as having a downward impact on future UK inflation.”
For Anna Stupnytska, global economist at Fidelity Worldwide Investment, the decision to raise rates remains a 2016 story, explaining: “While the pace of economic growth is decent at this point, the recovery remains quite uneven as the services sector continues to be the main engine for growth. But even there we saw some tentative signs of weakness in July as the Services PMI edged down on lower employment and business expectations.
“Meanwhile, exports and manufacturing continue to face the headwinds of the strong sterling and subdued external demand, particularly in light of a slowing China.”
This strength in sterling is likely to continue, assuming the recovery in the UK deepens, which puts the UK in a strong position. But, it also adds a further complexity to the data on which the BoE is likely to be dependent ahead othe a rate hike.
