The following is an unedited transcript of the news release from the Bank of England.



MINUTES OF THE MONETARY POLICY COMMITTEE MEETING HELD ON 9-10 APRIL 2008

The Committee noted a letter from the Chancellor setting out the remit for the Committee over the following year, in accordance with Section 12 of the Bank of England Act. Before turning to its immediate policy decision, the Committee discussed developments in financial markets; the international economy; credit, demand and output; and supply, costs and prices.

Financial markets

Sentiment in financial markets had deteriorated further in the first half of March as banks’
estimated losses had risen and efforts by a wide range of financial market participants to reduce leverage had continued. There had been a positive reaction to the co-ordinated announcement of central bank actions on 11 March, designed to relieve liquidity pressures in money markets. But the funding crisis at Bear Stearns in mid-March, leading to a Federal Reserve supported buy-out of the firm by JPMorgan, had temporarily heightened concerns about counterparty credit risk further. The functioning of money markets remained heavily impaired, with interbank lending still concentrated at very short maturities. Term spreads had risen again and market prices suggested that they were expected to remain higher than normal throughout 2008 and beyond – longer than expected at the start of the year.

The rise in the spread between three-month Libor and three-month overnight index swap rates
was a symptom of the renewed deterioration in conditions in short-term money markets. As credit default swap premia had fallen over the month, it seemed likely that the most recent increase reflected increased liquidity premia, although counterparty credit risk premia remained high. The rise was putting upward pressure on banks’ lending rates in the United States and the euro area, as well as the United Kingdom.

Estimates of the likely gross reductions of asset values on banks’ balance sheets were another
indication of the extent of dislocation in the global financial system, as they gave an indication of the pressures on individual institutions’ capital buffers. But it was important to distinguish such estimates from the net losses of banking systems around the world due to defaults by non-bank borrowers. First, many of the assets to which mark-downs would be applied were liabilities of other banks, so that some fraction of gross write-downs would be matched, in principle, by corresponding reductions in liabilities on the balance sheets of other banks. Net losses, consolidated across banking systems, were probably a better gauge of the macroeconomic impact, and so far these had been small relative to total lending to non-bank borrowers. Second, to the extent that mark-to-market losses also reflected increased liquidity premia and risk aversion, mark-downs would exaggerate the true increase in expected default risk.

Nevertheless, concerns about asset valuations in general, exacerbated by fears that the
macroeconomic outlook was worsening, particularly in the United States, were weighing heavily on market sentiment and were impeding the functioning of interbank markets. Even investors with long holding periods were holding back from buying assets that they considered undervalued, because of the possibility of further price falls in the short term. The economic impact of these losses would be reduced to the extent that banks revealed losses promptly and raised new capital where necessary, rather than relying only on shrinking their balance sheets. In this respect, the level of capital raising and sales of illiquid loan portfolios by some banks offered a degree of reassurance.

Expectations of Bank Rate derived from financial markets were broadly unchanged over the past month, with a total reduction of around 75 basis points anticipated by the end of 2008. Both financial commentators and the markets were expecting a reduction of 25 basis points in Bank Rate at this meeting. In the United States, short-term rates had fallen, and a policy rate reduction of at least 25 basis points was expected this month. But short-term rates in the euro area had risen, perhaps reflecting high inflation outturns and the tone of comments from the European Central Bank. Longerterm nominal and real rates had fallen in both the United States and the euro area, but had risen in the United Kingdom.

International equity prices had been volatile, falling early in the month but then recovering to
end the month a little higher overall largely reflecting movements in the prices of financial-sector stocks. There had been a marked tiering between higher stock prices of higher-rated banks and smaller gains for their lower-rated peers. Investment-grade bond spreads had risen further, and in the United Kingdom were the highest since the mid-1980s. It was unclear to what extent that reflected reduced risk appetite, increased liquidity premia or increases in expected default rates. The sterling effective exchange rate had depreciated further over the month, to a little below the range it had occupied for most of the past ten years. Relative interest rate movements could account for much of the movement in sterling from the onset of financial market turbulence in August 2007 to the end of the year but not the sharp fall over the past four months.

Sterling depreciation appeared to be a symptom of both a change in the perceived risks around the UK economic outlook and the need for some rebalancing of the composition of aggregate demand. In so far as there had been an increase in the risk premium on sterling assets, the real exchange rate would be expected to have fallen temporarily. That would tend to boost net trade and warrant a more pronounced slowdown in domestic demand growth in the near term than otherwise.

The international economy

Indicators for the United States suggested that activity had been weak in the first quarter, as the Committee had expected at the time of the February Inflation Report. There had been little reported growth in consumption in January and February. The Institute for Supply Management indices had edged up a little in March but had remained below their long-run averages. Non-farm payrolls had fallen by 80,000 in March, and by almost 250,000 in the first quarter as a whole; the unemployment rate for less educated workers had risen significantly. Looking ahead, the Committee expected a pickup in aggregate demand in the second half of the year, reflecting US policy actions, but it was uncertain how large and persistent that recovery would be. The Michigan and Conference Board measures suggested that consumer confidence was at an historically low ebb. Indicators of business and residential investment had been weak, with core shipments of capital goods lower on the month and the number of housing starts and new building permits down again. The Case-Shiller house price index had shown a further sharp fall in January. Inflation had eased a little on the headline consumer price index and the personal consumption expenditure deflator measures, but inflation expectations had picked up sharply in March according to the Michigan survey.

There had not been very much news about activity in the euro area. The apparent weakness in consumption in the fourth quarter of 2007 was largely accounted for by the German data.

Euro-area retail sales had fallen in February and, although industrial production had risen strongly in January, the Purchasing Managers’ Index measures for services and manufacturing had dropped a little in March. There were signs that some euro-area economies were experiencing a significantly sharper slowdown than others. Nevertheless, indicators were consistent with growth in 2008 Q1 only slightly below its historical average, in line with the Committee’s expectations at the time of the February Inflation Report. HICP inflation had picked up in March to 3.5%, according to the initial estimate, its highest rate since the introduction of the euro, and headline twelve-month producer price inflation had risen significantly in February.

In Japan, nominal export growth had held up, but industrial production had fallen in February and business conditions had weakened in the first quarter, according to the March Tankan survey. In February, annual CPI inflation had reached 1% for the first time in almost a decade. Annual inflation rates had hit new highs elsewhere in Asia, too, with the Chinese rate reaching 8.7%, its highest rate in nearly twelve years. The Chinese authorities had been emphasising their concern about the rise in inflation, which primarily reflected higher food prices.

Oil prices had remained high, with the price of Brent crude hitting a record peak early in March. Although the price had subsequently dropped back, it was still over 6% higher in sterling terms than at the time of the previous MPC meeting. But the Economist non-oil commodity price index had fallen to some extent, possibly reflecting the unwinding of speculative positions.

Credit, demand and output