Some months ago, in an article that must have made painful reading for the Bank of England, a dissident former member of the Monetary Policy Committee, David Blanchflower, lambasted the MPC for being dominated by "inflation nutters" and cowed by the Governor, Mervyn King. In the months leading up to the financial crisis and recession, Mr Blanchflower was habitually in a minority of one on the committee, arguing for rate cuts when the more immediate danger seemed to be resurgent inflation. As history judges, Mr Blanchflower was right.
Now the MPC has another dissident in a minority of one, though this time a hawk. Andrew Sentance, like Mr Blanchflower one of the external appointments, voted at the last meeting for a rise in interest rates of 0.25 per cent, to 0.75 per cent. The news surprised the markets, which seem to have quickly forgotten the three-way splits that sometimes characterised the Bank's policymaking last year, and the hawkish dissent about the extension of quantitative easing (QE) from its chief economist, Spencer Dale. Indeed, even if the MPC had voted to push rates a little higher, they would still be at their seond lowest ebb in the Bank's 315-year history and, in real terms, strongly negative. The general stance of monetary policy would have been unchanged; unprecedented laxity would be the best description of the Bank rate at 0.5 per cent for more than a year and a £200bn injection of money into the economy via QE.
Still, Mr Sentance's gesture was taken by some as significant. Some detect in the MPC a tendency for a "leader" to emerge at a turning point in the interest rate cycle, a leading indicator that policy will change direction. Few doubt that the next move in rates and in QE will be to tighten, but the consensus remains that it will take some time to materialise, probably in a year's time.
Mr King's Mansion House speech suggested that the Chancellor had created the headroom for monetary policy to stay loose if need be. Even the Organisation for Economic Co-operation and Development (OECD), in an unusually stark message telling the Bank to push rates higher, only wanted to see that happen by the fourth quarter of this year. A token rise in Bank rate or in sales of gilts (part-reversing QE) could come as late as the December meeting and still fulfil that injunction.
Still, headline inflation remains stubbornly high – 5.1 per cent for the Retail Price Index (RPI) and 3.4 per cent for Consumer Price Index (CPI) – and higher than elsewhere among the advanced economies. Although the hike in VAT to 20 per cent will take place in January, the public will have noted it and its likely (+1 per cent) impact on prices.
The Bank likes to "see past" such ephemera; but the fact of this change is now established, and will surely push inflationary expectations higher still. The Banks' elaborate fan charts for the future course of CPI have lately proven mistaken, and public expectations of future inflation are starting to become "de-anchored" from the official 2 per cent target.
The public is losing a little faith in the Bank even as it accrues ever greater powers over the economy. It is a prospect that has evidently spooked Mr Sentance. The minutes said: "For one member, developments over the past month were consistent with a pattern which had been developing over the past year. Inflation had proved resilient in the aftermath of the recession, casting doubt on the future dampening impact of spare capacity on inflation. Despite current uncertainties, for this member, it was appropriate to begin to withdraw gradually some of the exceptional monetary stimulus provided by the easing in policy in late 2008 and 2009."
There is also evidence of an almost self-flagellatory tone in the MPC's discussion of the Bank's recent record. "Although CPI inflation had fallen in May, near-term inflation prospects remained elevated," the minutes added. "This followed a period over recent years in which inflation had been above target for a majority of the time. It was likely that inflation would take some time to return to around the target."
Against that comes the familiar Bank argument that the margin of spare capacity in the economy will be sufficient to keep inflation dampened
down, just as soon as the rise in global commodity prices and the slump in sterling have worked their inflationary way through the system.
Yet that has been the case for some time now, and, as those minutes note, inflation is persistent. The Bank's nightmare must be this: that the UK will simultaneously suffer a fiscal contraction compounded by pan-European deflation, a faltering banking system unable to supply credit, inflationary pressures feeding through to wages and unemployment, and the feedback loops feeding off each other through a collapsing property market and consumer confidence. The MPC has always been on a tightrope; never has the view below looked quite so dangerous. Mr Sentance has wobbled.