• Although the news that the Monetary Policy Committee held interest rates at 4.75% for the second month in a row was no surprise, it will strengthen the suspicion that interest rates are already at their peak. They may be, although think that there is probably still one more rise to come, perhaps in November. But the more important issue concerns what is going to happen after that.
  • The data released in the last month have been consistent with the beginnings of a consumer spending slowdown. Although the quarterly rate of GDP growth was left unchanged in the final release, the increase in household spending was revised down from 1.1% to just 0.6%.
  • And even though August’s 0.6% monthly rise in retail sales completely reversed July’s fall, other indicators are consistent with a significant slowdown in the coming months. Indeed, the reported sales balance of the CBI’s Distributive Trades survey fell from +2 in August to -9 in September and consumer confidence fell from -5 to -7, taking it to its lowest level this year.
  • Such a moderation is undoubtedly linked to the softening in the housing market that has become evident in the last few months. After rising by just a monthly 0.1% in August, the Nationwide house price index rose by a similarly modest 0.2% in September – the weakest performance over any two months in four years. What’s more, the Bank of England’s number of new mortgage approvals series fell for the third month in a row in August, leaving it nearly 25% lower than in May and consistent with a moderation in house price inflation from the high-teens to around 10% in six months’ time.
  • With manufacturing output falling by 0.8% in August – the third monthly fall in a row – and the trade in goods deficit widening from £5.0bn to £5.2bn over the same period, the MPC may be becoming concerned that sometime next year the economy will be left without any forward momentum.
  • Thankfully, the Committee does not need to worry about inflation, as CPI inflation fell from 1.4% in July to 1.3% in August while wage pressures in the labour market remain firmly under control. Accordingly, the Committee will have plenty of room to cushion the blow from a sharp housing market downturn by cutting interest rates in the second half of next year.

Whether or not rates rise once more, it is high time that the markets focused on the prospect for lower interest rates next year. I believe that interest rates will fall to 4.5% by the end of 2005 and to around 4.0%

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