Services sector strength ups pressure on Carney

Bank Governor set to defend ‘forward guidance’ policy in face of buoyant data

The strongest growth for Britain’s powerhouse services industries since 2007 today put more pressure on Bank of England Governor Mark Carney to defend his flagship policy on forward guidance.

The Canadian has said that rate-setters will not consider raising interest rates from their current record low of 0.5 per cent until unemployment falls to 7 per cent, which the Bank does not expect to happen until 2016.

But a raft of upbeat economic data – including a surprise growth upgrade to 0.7 per cent between April and June – has prompted money markets to price in a first rate increase more than a year earlier, in March 2015.

The CBI’s latest snapshot of a sector that accounts for more than three-quarters of the UK’s overall economic growth added to the mounting evidence of a recovery gathering momentum today with optimism over prospects hitting the highest level in the survey’s 15-year history.

Business and professional services saw workloads rise at their fastest pace since November 2007, fuelling the strongest growth in profits since February 2008.

Consumer-focused services firms such as hotels, bars and restaurants are more cautious as households still face a real-terms squeeze from the cost of living still running ahead of wage growth. But CBI economics director Stephen Gifford said: “We’ve seen a further build-up of momentum in the service sector.” Economists expect Dr Carney to stand by his forward guidance policy a speech in Nottingham tomorrow, his first since unveiling the strategy three weeks ago.

Royal Bank of Scotland economist Ross Walker said: “If forward guidance is to have any meaningful dovish impact, the Governor needs to spell out in his first keynote speech why market rate hike expectations are unwarranted and what the Bank will do about it if rates do not gravitate lower.”

The average quoted cost of a two-year fixed-rate mortgage fell to an all-time low of 2.61 per cent in July, according to the Bank of England. But since early August, markets have bet against the Governor, pushing up the price of money market swap rates, which risks feeding into higher fixed mortgage rates for would-be home-owners. Since Dr Carney announced the policy, two-year swap rates have risen from 0.75 per cent to 0.85 per cent while five-year swaps have risen from 1.5 per cent to 1.79 per cent.

The Bank of England is sending a “clear signal” that interest rates are not likely to rise imminently with its new forward guidance plan, Deputy Governor Charlie Bean said.

The central bank is “communicating not just to market participants, but to people, to households and businesses, to give them a clear signal that interest rates are not likely to rise imminently,” Mr Bean told Bloomberg.

 “What we’re trying to do is explain as clearly as we can what are the factors that will guide policy going forward, recognising the world is an uncertain place,” he said. Dr Carney has failed to win unanimous backing for forward guidance with rate-setter Martin Weale calling for a more stringent inflation ‘knockout’.

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