London Update

February 2007

10 Years Of The Monetary Policy Committee
London Residential House Price Trend
Economic Outlook
Market Comment
Other News
Survey Update

10 Years Of The Monetary Policy Committee

The Bank of England’s Monetary Policy Committee has good reason to break open the champagne this June: the date marks the tenth anniversary of its independence from government.

Opinion may be divided over Gordon Brown’s track record as Chancellor of the Exchequer over the last decade: his fans point to a decade of economic growth while his detractors highlight spiralling public spending. However, one decision has been universally applauded: making the Bank of England entirely responsible for monetary policy.

The Bank is now in sole charge of setting interest rates in order to meet inflation targets set by the government. Ten years ago and beyond, the government controlled interest rates and Chancellors could meddle in the process and make decisions that often had more to do with politics than monetary policy.

While the Governor is the MPC’s most important member, there are another eight members and all have an equal vote. There are two deputy Governors, the Bank's Chief Economist, the Executive Director for Markets and four external members appointed directly by the Chancellor. The idea of the external candidates is that they bring a fresh approach to monetary policy.

The Bank’s measure of inflation is known as the consumer price index (CPI) and is measured by the Office for National Statistics every month across a basket of goods and services. Price changes are measured among other things for items such as domestic fuel, airfares, computers and food. However, mortgage costs are not included so the Bank is not directly measuring nor trying to control house prices. Rising house prices make home owners feel wealthy and more likely to spend, as well as more likely to increase their mortgages to release equity to spend. The MPC meet once a month to review the CPI and other economic data and decide on whether to adjust interest rates accordingly. Minutes of the meeting are published two weeks later.

Back in 1992, the UK economy was in recession with three million unemployed and in need of cheap money to stimulate growth. John Major’s government had signed up to the Exchange Rate Mechanism (ERM) which was designed to stabilise exchange rates, encourage trade within Europe and control inflation. The government talked tough about keeping interest rates high to maintain the value of sterling against other currencies. (However, the markets saw through the government’s bluster and Black Wednesday resulted forcing the Government to abandon the ERM, along with Spain and Italy). If the Bank of England had been independent at that time, it is likely that the ensuing chaos and 15% base rate would have been avoided.

The MPC

While the decision to make the Bank independent was considered a bold step for a British Chancellor, Gordon Brown was merely following in the footsteps of the most influential central bank in the world – the US Federal Reserve. The creation of the euro at the end of 1999 gave rise to the European Central Bank with an unenviable task of setting monetary policy for an ever-expanding number of European nations – currently 13 member states.

Back at the first meeting of the newly independent Bank on 6 June 1997, interest rates were higher then they are now. By the end of that day, the MPC had decided to raise the cost of borrowing to 6.50% with the then Governor, Sir Edward George, among the six members voting to hike rates by 0.25%.

Fast-forward to 2007 and the present Governor of the Bank of England, Mervyn King, was one of five members who voted at the January meeting to increase rates by a quarter point to 5.25%. This decision to raise interest rates was not widely predicted by independent economists and financial markets were caught out as a result.

In spite of the inherent difficulties of managing the economy through interest rates, the MPC’s record over the last decade has been impressive; inflation has remained low and on an even keel. Inflation may have hit a 15-year high in December 2006, but it is a measure of how well the Bank has done its job that this high was only 3%.

Recent data indicates that inflationary pressures will ease in coming months as sharp falls in the price of gas and electricity start to feed through to both manufacturers and consumers.

It is widely believed that there may be one further quarter point rise in the base rate on the horizon, most likely in the first half of 2007. Thereafter a prolonged period of interest rate stability and more likely a movement back towards or below the 5.00% level is expected. A situation that would have investors, home owners and businesses alike raising their champagne glasses in a nod to the independence of the MPC.

London Residential House Price Trend

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Economic Outlook

In a widely expected move The Bank of England maintained interest rates at 5.25% for February and although a further rate rise is likely later in the year, industry professionals are predicting another year of steady growth for the UK property market. Figures from the Council of Mortgage Lenders for instance, showed gross mortgage lending reached £26.8 billion last month - the highest ever figure for a January, and The Royal Institution of Chartered Surveyors feels “…strong economic conditions will keep the market on an even keel.”

The Monetary Policy Committee’s minutes from this month’s committee meeting suggest we could have seen the last interest rate rise for the time being. With a majority vote (7–2) in favour of maintaining rates at 5.25%, the minutes revealed that, “A closely spaced series of interest rate rises might lead to excessive tightening. There [is] time to observe the impact of past decisions and to see whether any of the upside or downside risks [are] crystallising." But the MPC noted, “particular uncertainty about the path of retail gas and energy prices and the corresponding adjustment of non-energy costs and prices,” signaling the possibility of further rises should fuel costs rise later in the year.

Market Comment

In their UK Housing Market Survey, RICS spokesman Jeremy Leaf, commented "Interest rate rises are having the desired impact of stabilising the market. The Bank of England’s hawkish activity has deterred some buyers who have started to hesitate before taking the property ladder plunge. However, a strong economy provides a platform for sustained house price rises, as would be buyers face an ever diminishing choice of property on the market.”

According to Rightmove, property prices accelerated slightly in February despite the latest rate increase “February is the traditional start to the home moving season and is a good indicator of what might happen for the rest of the year'' said Miles Shipside, commercial director of Rightmove. The reason, they feel, is the severe imbalance between the supply of properties and demand from an ever growing population.

Other News

	Candy and Candy, the up-market property developer have started construction on a luxury development opposite Harvey Nicholls in Knightsbridge. Overlooking Hyde Park, prices will be around £4,000 per square foot for most of the apartments, while the four penthouses are rumoured to be worth £84 million each. It may well be worth it just for the address – 1 Hyde Park.
	And finally, Britain’s most expensive building has been sold for £600 million. The “Erotic Gherkin”, as some have called it, in the City of London, was sold by Swiss Re. They will remain as the principal tenant for the foreseeable future.

Survey Update

Thank you to all those who completed our survey. The winner, Nick Mansfield was drawn last week and has received a case of Veuve Clicquot champagne. Our analysis of the survey will be published in next month's London Update.

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