Will Mervyn King convince the MPC to increase asset purchases

Today’s Bank of England (BoE) decision is perhaps one of the most unpredictable decisions for some time.

There have been heightened expectations of an increase in asset purchases since the previous BoE MPC minutes, which were released on 20^th February, showed that Governor Mervyn King voted for a £25bn increase, alongside Fisher and long time dove Miles.

This was the first time a split had started to emerge in the MPC since June 2012 and the following month the committee voted to increase asset purchases by £50bn. So it is natural that last month’s split now increases expectations that history repeats itself today and the ‘three dove musketeers’ now convinces the rest of the MPC to vote for more stimulus. The issue becomes even more pressing given the contraction in UK GDP in Q4 of last year, and the much weaker than expected manufacturing and construction activity at the start of this year, which threatens a triple dip recession (two consecutive quarters of contraction).

However, the surprisingly strong services data earlier this week, which contributes to two-thirds of the UK economy, may well have given the MPC some breathing space. UK Services came in at 51.8 in February, its fastest pace for five months. At the same time, confidence amongst services firms is also improving, with the confidence index hitting a nine month high of 67.6 last month.

The net result of the above is that today’s decision becomes incredibly difficult to read.

The BoE has openly admitted to divorcing its priorities away from meeting its inflationary target of 2% in favour of growth protective policies such as increased asset purchases. There has even been some discussion of alternative measures such as rate cuts or even negative interest rates. However, these other measures are broadly seen as merely talking up the case for more QE by migrating the argument from whether there should be an increase in QE to which stimulus tool is best to use.

Potentially of greater importance is the fact that no one from the Bank of England has been seen to be talking down the potential for more QE in the near term, despite the heightened expectations of the market for this. Whilst its not necessarily the BoE’s style to communicate to the markets in such a purposeful way outside of its formal decisions, we have seen an increase in PR style communications from committee members of late, giving the MPC ample opportunities to talk down the potential for more QE. Yet, this has not happened.

So onto 12 noon for QE-day.

How will the markets react? A quick look at the FTSE 100 and the pound sterling shows where expectations are weighted towards, which is more QE. The FTSE 100 is trading at 6452, and a close above here would be the highest close on the FTSE since January 2008. The pound has fallen below the $1.50 level against the US Dollar, having been trading at $1.6380 at the start of the year.

This means that today’s decision is likely to give a double edged market reaction. A move to keep both rates and QE levels on hold, without any meaningful communication to accompany the decision could see the FTSE 100 fall back and the pound sterling bounce back above the $1.50 level. Whilst a move to increase asset purchases by £25bn would likely please a market that has already factored much of this in. An increase of £50bn in asset purchases would be seen as aggressive stimulus and would likely see heavy pressure on the pound sterling.

My hunch is that the MPC likely does announce an increase in QE of £25bn today, but the chances of this are rated at 50%. And so we watch with bated breath and much interest.