The Bank of England’s economic forecasting model has become “unworkable” during the inflation crisis, the Bank’s chief economist has admitted.
Huw Pill told a conference of central bankers in Portugal that the tools the Bank used to understand what was happening in the UK economy failed to accurately anticipate the effect that high energy prices and low unemployment would have on the economy. “As inflation moves away from target, the everything-else-equal assumption that allows us to break down the contributions to the drivers of inflation in a linear way tends to become unworkable,” he said.
The central bank has commissioned an external review of its forecasting process.
Central bankers worldwide have faced mounting public criticism for characterising inflation as “transitory” and then failing to anticipate how sticky price pressures would be as forecasting models failed in the face of shocks ranging from the pandemic to the consequences of the Ukraine war.
Alfred Kammer, of the International Monetary Fund, speaking alongside Huw Pill, said “forecasting is a humbling task. The elephant in the room, with the repeated underestimation of inflation over the past one and a half years, points to the need of being nimble, and the need for forecasters to be more flexible with their approaches."
Andrew Bailey, the Bank’s governor, later said that "UK labour market data and the high core inflation figure was the reason the Bank opted for a half a per cent rate rise last month. The cumulative data – both particularly on the labour market and on the inflation release we had, which to us showed clear signs of persistence – caused us to conclude that we had to make really quite a strong move, and he personally thought the increase, which surprised some experts, was preferable to two consecutive quarter-point moves. UK interest rates would need to stay higher for longer because of persistent inflation. I’ve always been interested that markets think that the peak will be short-lived in a world dealing with more persistent inflation."
Headline inflation would come down, he said, but he added that core inflation – rising prices which exclude more volatile energy and food prices – was a problem.
Mr Bailey said,:“I can understand why there are critics of us and central banks, [but] we have a job to do. I’m very clear that our job is to return inflation to target – and we will do what is necessary.”
Interest rates to stay higher for longer with recession forecast – claim
Schroders is forecasting recession and says that the surprise 0.5% hike in Base Rate suggests the Bank of England is far from getting on top of inflation. The Governor of the Bank of England Andrew Bailey has hinted that interest rates may stay higher for longer than expected, because inflation has proved to be such a persistent problem.
Speaking at a European Central Bank conference in Portugal Bailey suggested that markets were wrong to think rates would fall quickly from a peak reached around the end of this year.
During the same event, he said that the UK labour market and not Brexit is to blame for stubbornly high inflation.
Meanwhile Azad Zangana, Senior European Economist and Strategist, at investment manager Schroders, reckons that the events of the past few weeks, incoming data and the surprise 0.5% rise in the base rate suggests that the Bank of England remains far from getting on top of inflation. He says, “Consequently, we now anticipate interest rates to peak at 6.5% by the end of 2023, a full 1.5% higher than our previous forecast for a peak of 5%. This is one of the highest forecasts in the market and we anticipate rates at this level will drive the UK economy into a recession.”
Schroders now forecasts that the Bank of England will raise rates by 50 basis points (bps) in August and September, before slowing to 25 bps increments in November and December.
Zangana also adds “unfortunately, the Bank of England is no longer able to wait and see how the interest rate rises so far will affect the economy. We also cannot rule out that the path the bank seems now to find itself on, with the potential to disproportionately impact the housing market, will not result in financial stability issues. The current level of UK GDP remains below where it was in September 2022, and so while the country has avoided a technical recession (two consecutive quarters of contraction), the environment is already fairly recessionary. The increase in interest rates we now anticipate is likely to be felt by the end of 2023, and we forecast a recession to follow between Q4 2023 and Q2 2024, with a total fall in GDP of 0.6%.”
Investors want the Bank to stop hiking interest rates
Some 43% of retail investors think the Bank of England should stop hiking interest rates to avoid a banking crisis, research commissioned by HYCM has revealed.
Over a third (35%) say interest rates have risen too high and are negatively impacting their investments. Last month the Bank increased interest rates to 5%, while forecasters like Schroders expect them to increase to 6.5% in the coming months. The Bank has been rapidly increasing interest rates in a bid to curb inflation.
Half (50%) of investors see inflation as the biggest risk to their portfolios, suggesting it’s something of a no-win situation.
Giles Coghlan, chief market analyst, consulting for HYCM, said “while the effort to contain US inflation now seems to be bearing some fruit, UK inflation is proving to be stickier than expected. Following the Bank of England’s 12thconsecutive interest rate hike, persistent inflationary pressures, including wage growth and a tight labour market, mean that interest rates could rise even higher still this year. With core inflation ticking up and the headline print remaining stagnant, our research shows that investors are rightfully concerned about the impact of inflation on their assets and the wider economy. However, the Bank of England is no longer forecasting a recession for the UK and has revised GDP up for next year to 0.75% from a prior projected fall of -0.25%, which should provide investors with some confidence about the road ahead. That said, with millions of homeowners still to feel the full impact of rising interest rates, stronger growth may still prove illusive for the UK economy, especially if rates have to move to 5% and beyond to tackle strong UK inflationary pressures.”
The majority (56%) of investors believe that persistent inflation is now ingrained in the economy and will be difficult to reverse.
Bank of Mum and Dad steps in to help children with mortgage bills
One in four parents are helping their grown-up children cover rising mortgage bills, research suggests.
Some 23% of parents with assets in excess of £250,000 are helping to pay their children’s mortgages, with 79% stepping in to support with other everyday costs, a survey has found. While the Bank of Mum and Dad has long helped with house deposits, empty-nesters have also been lending their adult children a hand with the rent, with 20% helping to cover shortfalls.
A fifth of parents have sacrificed their own financial stability for the good of their children, by reducing pension contributions, selling other assets or taking equity from property, a survey of 2,000 people by advisers Saltus Wealth.
Mike Stimpson, of the firm, said "the level of reliance on parents was not sustainable, traditionally, parents have helped out their children with deposits on houses, and other investments that grow with them, but now, we’re increasingly seeing clients forced to bring those investments forward to help their children with everyday costs such as mortgages and household bills. If the younger generation continue to rely so much on their parents, it is going to have a huge knock-on effect on the whole family. Their parents have been planning for their retirement – and in most cases, planning the best way to pass on an inheritance – based on their own needs, not necessarily the needs of their children.”
The average two-year fixed-rate mortgage is now at more than 6%, meaning monthly repayments on a £285,000 house with a 15% deposit on a 30-year mortgage stand at more than £1,400.
Chancellor Jeremy Hunt announced a range of measures to help homeowners struggling with payments in the House of Commons on Monday, after talks with lenders. Homeowners will be protected from repossession without consent for 12 months and will be able to talk to their bank for advice without it affecting their credit score.
Borrowers will be able to switch to an interest-only mortgage or extend their mortgage term and return to their original deal within six months with no questions asked.
UK wages are responding to inflation with a lag, BoE's Dhingra says
LONDON (Reuters) - Bank of England interest rate-setter Swati Dhingra said on Tuesday that there was a time lag between moves in inflation and that scale of demands by workers for increased pay.
"There's naturally a lag in terms of how wages are responding to consumer price inflation," Dhingra told a conference organised by The Royal Economic Society.
Interest rate rise: Agents warn of weaker demand and forced sales
The latest interest rate rise has heightened the risk of forced sales and buyers shying away from the market, agents have warned.
The cost of borrowing was increased by 50 basis points by the Bank of England yesterday from 4.5% to 5%. This marks a 13th consecutive hike since rates were first increased in December 2021 from a low of 0.1% to 0.25% and puts the base rate at a 15-year high. There are plenty of agents remaining calm and adding that this will just make sellers more realistic when it comes to pricing.
But there are consequences that others are warning of. Alex Lyle, director of Richmond estate agency Antony Roberts, said "yet another interest rate rise, coming on the back of so many and with the potential for more to come, creates further uncertainty, which is not good for the housing market. Although some parts of the country have proven remarkably resilient to increasing interest rates, inevitably this is less the case the higher they go. This latest rate rise will give those buyers who were anxious anyway an excuse to back out. Quite a few buyers and sellers are sitting tight until the autumn in the hope that the situation will have settled down by then.”
Matt Thompson, head of sales at Chestertons, said “we expect the rate rise to have an impact on overleveraged buy to let investors whose increased mortgage payments could lead to their investment making limited profit or even a loss. This could result in some landlords deciding to offload their assets. At this stage, we haven’t yet encountered homeowners who have been forced to sell up but, if rates continue to rise, some owners may be forced to review the situation and weigh up their options. At the same time, demand for properties in London continues to stay strong as the capital remains a hotspot for a variety of buyer demographics including international buyers.”
Managing Director of Barrows and Forrester, James Forrester, suggested the Bank of England has lost its grip on inflation, adding “this will do nothing to revitalise what has become a rather weary looking property market in recent months and is sure to dampen buyer demand as lenders pass on this increase in the form of higher mortgage rates.”
It comes as Rightmove mortgage expert Matt Smith said more people are still sending enquiries to estate agents to view homes for sale than at this time in 2019.
He said “we’ve also seen daily visits to our mortgage in principle service increase by 53% over the past month as more people look to understand what they can afford to borrow and repay on a mortgage. This indicates to us that for many people right now, higher interest rates are leading them to assess their budgets and what they can afford rather than put their plans on hold.”
Nathan Emerson, chief executive of agency trade body Propertymark, added “it’s undisputed that homeowners and first steppers will be facing the consequences of rising interest rates as borrowing costs increase. However, with this comes a further shift towards more realistic and sustainable house prices down from the spike seen during the pandemic. Confidence from sellers is undeterred with our latest data showing a 70% increase in properties available for sale compared to April 2022 and in turn, this is providing buyers more room for negotiation as well as more choice.”
It comes as Chancellor Jeremy Hunt is reported to be holding a meeting with mortgage lenders today to discuss the issue of rising borrowing costs.
Craig Vile of lead generation software provider ValPal, said “the decisions taken will have a big impact on the market and it’s vital measures are introduced which help support homeowners and thus support those working in the industry to make the most of what continue to be huge opportunities. We don’t need to talk ourselves into a house price crash - calm and assured leadership and sensible proposals, coupled with the strength of the market, will protect the sector and enable us to come through the challenges. Many parts of the country are actually seeing prices rise, and the market remains incredibly robust. Houses are still being sold. It is estate agents and those working across the sector who now really hold the key to how things go from here. Those who operate in the quickest and most efficient way to maximise the opportunities which the market is still offering will reap the most rewards.”