The Bank of England's Monetary Policy Committee (MPC) is moving ever closer to interest rate rises. That seemed to be the clear implication from the minutes of the MPC's February policy meeting, where the divisions on the Committee widened further. But the precise voting split was unexpected, and its implications for changes in rates over the next few months take a bit of untangling.
Following his rush to rubbish the MPC's latest forecasts, just a day after they were published, it was not surprising that Andrew Sentance voted for another rate hike. But his call for a 50 basis point (bp) hike – as opposed to the 25bp increase he had been calling for previously – was unexpected. With hindsight, the tone of the speech the day after the Inflation Report was published is certainly more consistent with a 50bp move than something smaller, and he has since followed it up '10 good reasons to tighten'.
However, given the gradualist approach that the MPC normally favours, Sentance is now out on a limb. In its 14-year history, the MPC has never tightened policy by 50bps in one go – and despite the unprecedented low level of Bank Rate at the moment, the rest of the Committee are still far more likely to want to move in 25bp steps.
As a consequence, Sentance could be making more of a public point than a policy one. His (second) term on the MPC is due to end on 31 May this year, and I for one wonder if he is adopting a Blanchflower-esque stance ahead of his departure. While underlying inflationary pressures are weak, and inflation should fall back in 2012, a sudden spike in energy prices or a large fall in sterling could keep CPI inflation above target for longer. That would allow Sentance to claim (albeit under false pretences) that he had been right to call for tighter policy than the rest of the MPC were comfortable with.
Ironically, however, Sentance's shift may also delay the timing of an increase in rates. The MPC operates on a 'one member, one vote' basis on specific policy proposals. So if Sentance had kept on voting for a 25bp increase, then it could only have taken Governor King to vote for a rate rise and it would probably ensue – the broad vote split would then be 4 for a 25bp increase, 4 for no change, and Adam Posen voting for an extra £50bn of quantitative easing (QE). (Posen's vote would obviously be very important, as outlined below). In the event of such a tie, the Governor has the casting vote, and rates could rise. Admittedly, I think King is in no hurry to raise rates, but this entire possibility has now been extinguished.
Instead, with Sentance now in 50bp territory, Martin Weale and Spencer Dale now need two colleagues to join them (on +25bps) to get a rate rise – assuming no other changes, the split on the committee would then be 1 for +50bps, 4 for +25, 3 for no change and Adam Posen. Furthermore, if Posen steps back from his call for Â£50bn more quantitative easing (QE) – which would be consistent with the broader shift in the balance of sentiment on the Committee, if perhaps not his most recent speech on 22 February – Weale and Dale would need the Governor to be one of those two extra members voting for +25bps, as the split would be 1 for +50bps, 4 for plus 25bps, and 4 for no change. If I am right, and Mervyn King is not minded to raise rates in a hurry, Sentance would have to undertake an embarrassing u-turn in order for policy to be tightened, as the Governor's casting vote should be with the 'no change' camp.
There is also one further wrinkle to consider. At the end of each policy meeting, it is the Governor, Mervyn King, who decides which proposal to invite his colleagues to vote on. (He also picks the order in which they vote, although this is pretty random according to insiders.) If the Governor asked the MPC to vote for a 25bp rate increase tomorrow, it would fail. If he asked them to vote on just leaving interest rates unchanged, the motion would be carried, and he could then offer a second motion on QE that would also fail, to keep Posen happy.
All of this suggests that Sentance's move may actually have decreased the likelihood of an early tightening of monetary policy in March or April. Ironically, in his stated desire to see policy tightened more quickly, he may have delayed the first rise in interest rates.