Policymakers appeared to put the brakes on interest rate rises on both sides of the Atlantic yesterday, after dovish remarks from the Federal Reserve chairman and the Bank of England's Monetary Policy Committee.
Stocks on Wall Street soared and the dollar plunged after what markets took as a hint from Ben Bernanke, the Fed chairman, that the slowing economy would soon bring a pause in the rise of US interest rates, after two years of relentless increases.
"We must take account of the possible future effects of previous policy actions - that is, of policy effects still 'in the pipeline'," he told the Senate Banking Committee, as he presented the Fed's regular six-monthly report to Congress.
For traders , Mr Bernanke's words encouraged the hope that although the central bank is still likely to boost short-term rates a further quarter point to 5.5 per cent next month, that might be the last move for a while at least, as policymakers wait to see the full impact of 16 successive increases in the benchmark Fed funds rate.
In his testimony, Mr Bernanke warned that inflation, fuelled in good measure by rising energy prices, remained a threat. If prices rose more quickly, he said, that "might force us to be more aggressive" - which could affect growth in the short term. But he indicated the economy was already in a "phase of transition" and slowing of its own accord.
That was all that markets, battered for days by worries over the Middle East, needed to stage a recovery. The Dow Jones leapt 212 points, almost 2 per cent to 11,011.4. The dollar fell against the euro, the yen and sterling, as the prospect grew that interest rates would soon level out.
According to the Fed, consumer prices are likely to climb this year by 2.25 to 2.5 per cent - the upper end of its assumed inflation target range - and by 2.0 to 2.25 per cent in 2007. But core consumer price inflation was 0.3 per cent in June, the US government reported yesterday, bringing the core annual rate to 3.6 per cent over the last quarter.
Mr Bernanke reiterated that the Fed still had an open mind on rates, and would set its policies according to economic developments. With growth slowing, the housing market weakening and inflation on the rise, the central bank must walk a fine line between keeping expansion going while keeping inflation in check, he said.
In the UK, the minutes of the MPC's July meeting revealed the seven-strong committee felt there were "significant risks" in moving interest rates either up or down, indicating that the increase which some City economists had pencilled in for next month is unlikely to happen. All seven voted to hold rates at 4.5 per cent, as widely expected. The consensus followed the committee's three-way split in May and came after the sudden death of David Walton, who had favoured a rise, and the departure of the dovish Stephen Nickell.
The MPC noted that financial markets had been more stable over the past month after falling sharply in June, despite remaining below levels at the May inflation report. This would "tend to reduce inflationary pressures".
The MPC also noted that business investment remained subdued and there was a chance that a slowdown in the US might be sharper than thought. John Butler, UK economist at HSBC, said: "The overall tone of the minutes is neutral and does not suggest that a rate hike is imminent."
The MPC will again be restricted to seven members next month because the two replacements - Timothy Besley, the LSE professor, and Andrew Sentance, the British Airways chief economist - do not join until September and October.Reuse content