Mark Carney and his monetary policy committee cohorts have been adamant that they will base monetary policy decisions on ‘the data’ but when different data suggest different things about where the UK economy is heading that position is liable to leave many confused.
On one hand, there was Tuesday’s inflation number. At 1.9% it was up sharply on May and represented the biggest rise since January, however the story behind it is just as important as the number itself.
Then yesterday came news that wage rises are still close to non-existent with earnings excluding bonuses up just 0.7% annually in the three months to May, the slowest growth for over a decade. This has come despite unemployment dropping to its lowest level since before the global financial crisis to 2.12 million, or 6.5%.
Carney had originally pinned forward guidance on rates to the UK unemployment number but with unemployment levels and wages seemingly becoming so disconnected it makes the very basis of that policy seem flawed. It was already undermined anyway by the fact that unemployment long since dipped under the 7% level without any rise in interest rates being forthcoming.
Add to all this the rhetoric from Carney and other MPC members on rate setting that sways one way then the other on an almost weekly basis and you have what amounts to a complete guessing game, with few rules.
“Today’s weak wage growth dynamics show the complexity embedded in the current environment, given the recent focus on labor compensation as an important policy shaping metric,” said Salman Ahmed, fixed income strategist at Lombard Odier. “The key question of what the exact profile of the next hiking cycle would look like remains complicated given the increased interest rate sensitivity of the economy, with the housing sector playing an outsized role in supporting the upswing, and still-subdued wage growth dynamics,” he added.
Rathbones fixed income manager Bryn Jones said that the numbers present a very mixed picture and investors should hold fire on making any big moves. “There are a lot of different views out there though no real consensus as to how significant the inflation threat is,” he said.
“You could look at this in two ways- as just a statistical aberration based on a late start to summer sales or you could look at it and say it reflects a growing confidence in the recovery and consumers are prepared to spend more,” Jones added “On the flipside there is falling unemployment yet the wage inflation numbers just out aren’t at all exciting,” he continued.
While major changes based on the latest number would be unwise in Jones’ view, investors worried about inflation may well be better off buying floating rate notes or RMBS because if interest rates do go up due to the inflation these assets would pay more, so act as protection.
While index-linked gilts can provide inflation protection they also create duration exposure in a rising rate environment so investors should think carefully about going down that route, Jones added.
James Lynch of Kames Capital saw the inflation number as more significant than Jones and many others, but acknowledged that different UK data can be used to make whichever argument you want at the moment.
“As we appear to move ever closer to the first rate hike in the UK, each data release seems to carry more and more importance as economists, market participants and members of the MPC all debate the exact timing of when our next hiking cycle will begin and the path it will eventually take,” he said. “Within this context the hawks and doves will each point to specific data releases to help make their arguments,” he added.
“As we know, statistics can be manipulated to support almost any argument but there is no getting away from it, this was a stronger-than-expected inflation print in both core and non-core inflation especially given the recent strength of sterling, our apparent lack of wage increases and the low inflation persisting throughout continental Europe,” Lynch continued.
He did note however that investors should be careful not to extrapolate too much on one month’s numbers as it remains to be seen if the rise will be transitory or the start of something more significant.
While it is clear that your viewpoint on the UK economy will depend on the data you look at, it seems it could increasingly depend on which economists, analysts or fund mangers you talk to as well.
