Michael Harrison's Outlook: If you want to know which direction UK interest rates are heading, look overseas

Yell starts to get its voice heard; Arcelor/Mittal nears end-game
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The Independent Online

Asking the Bank of England to insulate the UK from the broader sweep of forces shaping the world economy is a bit like expecting Britain to escape global warming if only everyone in the country drove a hydrogen-powered car.

There is only a very limited amount any central bank can do when faced with big structural upheavals in the global economy, and even then it can be no more than reactive in its measures.

The tectonic plates are shifting the world over and yesterday they moved sufficiently beneath Japan to cause the biggest drop in Tokyo share prices since September 11, prompting significant though smaller corrections on European stock markets.

The 4 per cent fall in the Nikkei index was no more a reflection of the underlying health of the Japanese economy than was the 1.8 per cent decline in London share prices a statement about the prospects for the UK. Indeed, as we have noted here on many occasions, the ups and downs of the FTSE 100 index, dominated as it nowadays is by companies who derive most of their earnings from abroad, has become increasingly disconnected from the fortunes of the domestic UK economy.

The key to the huge volatility in stock markets lies in the broader challenges the world economy faces. How will the huge structural trade imbalances between the US and the rest of the world unwind? What will happen to the dollar? How long can China and India continue to act as the engine of world growth?

The Governor of the Bank of England, Mervyn King, tiptoed into this debate on Monday night and he chose to walk a fine line, which suggests, at least in the short term, that UK monetary policy will remain unchanged.

Yes, he said, interest rates may, in retrospect, have been kept too low over the last three years, a period of the greatest sustained world growth in a generation. Yes, inflationary pressures are appearing across the industrialised world, not least due to high oil prices. And yes, the rising cost of Chinese exports threatens to result in the industrialised West importing inflation from abroad.

On the other hand, pay pressures continue to be muted and, although the UK inflation rate is marginally above target, it is still below the Bank's own forecast and expected to trend down to hit 2 per cent in two years time. Soaring energy prices also have a deflationary as well as inflationary effect in that they reduce the amount consumers have to spend and therefore the price that producers of goods can charge.

In light of yesterday's uptick in inflation as measured by the consumer price index, it looks as if Mr King's speech on Monday night was a pre-emptive move on the Bank's part. Having studied the entrails, the market concluded that UK rates are not about to change, even though Gordon Brown gave his implicit backing to an increase as a sign that he is serious about keeping the lid on public sector pay rises at 2 per cent.

If there is a broader message from the Governor's musings, it is that the clue to the future direction of UK rates lies beyond these shores. To the extent that equity markets are any guide, fasten your seat belts for a bumpy ride for the rest of the summer.

Yell starts to get its voice heard

Yell did not exactly shout it from the rooftops, but the Competition Commission's verdict on its monopoly over the directories market could have turned out a lot worse for the company than it has. With a 75 per cent market share - five times that of its nearest competitor Thomson - it would have been remarkable if the regulator had determined there was no further need for any form of price regulation.

But compared with the more radical solutions that have been canvassed, ranging from strict limitations on what Yell can do to the outright break-up of the business, a further limited period of price caps does not look like too bad an outcome.

In contrast to its initial report in January, the commission has woken up to the presence of the elephant in the corner of the room in the shape of BT's re-entry into the market. It has also acknowledged that the internet is a powerful alternative tool for advertisers, even though it does not yet recognise it as a meaningful competitor to the printed directory. As evidence of this, the commission notes that the revenues of directory providers have continued to rise. And yet how else is a price-regulated company expected to grow other than by seeking out new sources of income?

The commission in its wisdom also points to the fact that Yell has continued to charge the maximum allowed under the price controls as proof that it faces no serious competitive threat, as if price-regulated companies are expected to do anything other than charge what the regulator allows.

But these are quibbles. They should not distract from the broader thrust of the commission's report, which is to acknowledge that the onus will now shift from price regulation ad infinitum to a negotiation over the level and scope of price controls and how long they might last. Perversely, Yell's rivals are no more fans of price controls than it is, because they restrict innovation in the market and force everyone under the same price umbrella.

The market took one look at the negative headline findings from the commission and chose to mark Yell's shares lower. But, whisper it quietly, the UK might just be moving at last towards a deregulated directories market.

Arcelor/Mittal nears end-game

The longer the Arcelor/Mittal bid battle goes on, the more obvious it becomes that the former is determined to preserve its independence from the latter at almost any price, irrespective of what is in its shareholders' interests. Nothing short of an all-cash bid at Arcelor's inflated self-valuation of €44-a-share would, it seems, do the trick. And quite clearly, Mittal has neither the cash nor the inclination to even think about going down that road. Arcelor has twisted and turned in its efforts to shake off Mittal, inventing poison pills, bribing shareholders with their own money and finally running into the arms of a Russian bear in the shape of Severstal's Alexey Mordashov.

But Lakshmi Mittal has hung on for grim death, sweetening his bid financially and even offering to cede control over the combined group - although with 45 per cent of the shares, he would still in effect call the shots.

All along Arcelor's tactics seem to have been to frustrate both its predator and its shareholders. It has invited Mittal to sit down and talk about its business plan, only to then rubbish it in public. It has offered shareholders a vote on the Severstal merger, but only after the deal has been forced through.

Yesterday, the war of words continued with the each side attempting to demonstrate it was they who have the more profitable strategy for producing steel. However, the end-game does now appear to be in sight. In the absence of some eleventh-hour meeting of minds, which seems unlikely given the gulf between the combatants, it will come down to a straight proxy battle. The see-through value of Mittal's cash and shares offer continues to exceed Arcelor's market price, which suggests the net is closing.