Sterling surges as Bank of England announces removal of housing lending program
02/Dec/2013 • Currency Updates•
In an otherwise quiet week with little macroeconomic data and typically thin Thanksgiving markets, the Bank of England surprised markets by ending early its support for the housing market. This suggests that it is starting to worry about future unbalances brought about by years of extraordinary monetary stimulus. Such hawkishness caught investors off balance, and sterling surged against both the euro and the dollar. Equities hit new highs for the cycle worldwide and new all-time highs in the US, and credit spreads contracted slightly. Whatever the knee-jerk reaction to the BoE’s announcement, it is clear that financial markets are not yet worried about the implications of tighter monetary policy worldwide.
The Bank of England took traders by surprise last week. It announced the shift of its Funding for Lending Scheme (FLS) incentives from supporting mortgage lending to SME lending. While the immediate impact of the policy shift should be small, this suggests that the BoE is starting to worry about the future impact of extremely easy monetary policies, in particular as regards the recovery in housing prices and easy mortgage lending. This is a hawkish development we had not been expecting. Third quarter GDP expenditure details, with growth mostly driven by private consumer spending and lower household savings provided further support for the BoE’s shift. While we think higher rates in the UK are justified, we think the currency might be starting to get a little ahead of itself. The BoE cannot be happy with recent sterling strength, which will only exacerbate the economy’s dependence on household-dis-saving to sustain growth.
Last week brought some relief to the ECB in the form of a rebound in the eurozone inflation level to 0.9% YoY in October, up from 0.7% in September. Probably half this increase is related to one-off increases in Germany, where the harmonised European rate of inflation rose 0.4% while the CPI rose just 0.1%. Inflation continues to be uncomfortably low. However, the apparent stabilisation in the YoY leads to expect another cut and negative deposit rates in the January meeting, rather than next week’s. Elsewhere, the news continues to be grim. To the second consecutive monthly drop in PMIs we now add yet another contraction in overall loans in October, as the volume of lending to households and corporate dropped another 15bln euro, down 1.7% YoY. We see no reason to change our bearish view on the euro.
Relatively little economic data out last week in the US during a holiday-shortened week. Of note, the durable goods orders report printed below expectations for the second consecutive month. However, this is a notoriously volatile number, and the drop may reflect nothing more than shifts in the spending schedule brought about by the October Government shutdown, so we are inclined to look through it. All eyes are now on next week’s all important payroll report. If it maintains the strong tone of the last two releases, we would expect the consensus for the start of the taper to move closer to our view that it will start at the January meeting of the FOMC, buoying the dollar.