City mythology has it that the Bank of England’s Monetary Policy Committee (MPC) likes to take it easy after its Christmas break and seldom changes interest rates at its first gathering of the year. In reality, the MPC has got off to a busy start in three of the past ten Januarys and has not allowed concerns about the crucial question of how Christmas trading went on the high street to stand in the way of action.

Many economists were badly wrong-footed this time last year by a surprise January rate rise. So, after a nail-biting run-up to last month’s hard-to-call Bank decision to cut base rates by a quarter-point, the Square Mile will once more be on tenterhooks as it waits for the MPC statement this Thursday.

There has not been a back-to-back move in interest rates since June 2004, but growing fears over prospects and the MPC’s December conclusion, revealed in its minutes, that “a substantial loosening in policy might be needed” to bolster growth are seen as leaving this month’s decision on a knife-edge. Each month The Times looks at the factors that can weigh most heavily with the MPC. Here is the latest assessment:

Growth and activity: losing steam
Latest GDP data still showed substantial momentum in the economy in the third quarter, with growth at a strong 0.7 per cent. But these figures are likely to be seen by the MPC as having been largely superseded by events, so that the focus will be on further signs of weakness that have since emerged.

With house prices falling in all the main surveys, mortgage approvals at their weakest in nearly three years and consumer confidence having slumped to a 12-year low last month, the committee will ponder the danger that these trends will spill over into a steep slowdown in spending by fretful consumers. The latest retail data still suggest, however, that sales have proved reasonably resilient, with volumes up by 0.4 per cent in November.

Signals from the vital services sector have been mixed. Key surveys show that its activity in the final quarter of last year was the weakest for at least four years, but also pointed to a modest pickup in December.

Strains in credit markets remain a critical issue. The Bank’s own survey showed that loans are harder to get for households and businesses, with lenders planning further curbs on access to credit. Yet action by the Bank to inject extra funds has successfully put a brake on money market interest rates.

Costs and prices: still simmering
Inflation on the consumer prices index stayed close to the 2 per cent target, at 2.1 per cent in November, while “core” inflation, excluding food and energy costs, was a muted 1.4 per cent.

Persistent inflation concerns by MPC hawks will have been inflamed, however, by steep drops in the pound and a renewed surge in oil prices. Sterling’s exchange rate index has tumbled by 8 per cent over the past six months, while crude oil prices have breached record levels above $100 a barrel. Prices charged by services firms also hit a ten-month high in November. There is some renewed concern over wages after initial snap-shots of the January payround provided evidence of the sharpest rises in settlements for several years.

The international economy: cooling
Fears over the threat of a recession in the United States have escalated in the past week after two bleak developments. The key ISM survey of American services companies showed that the most important sector in the US economy shrank in December, with activity at a 4½year low, seen as on the cusp of recessionary levels.

Worries multiplied on Friday after news that American employers had created only a meagre 18,000 new jobs last month, while the US unemployment rate jumped from 4.7 per cent to a two-year high of 5 per cent.

Rate verdict: knife-edge, but no change
December’s debate showed the MPC is clear that more cuts are needed this spring. However, the pound’s fall, dearer oil and mixed signals from the high street and services sector may result in rates being held this time.

World outlook

Having played down the threat of world financial crisis from a credit squeeze, in the past month the Bank’s top officials have been increasingly gloomy over the risks
Mervyn King, the Governor, told MPs before Christmas that “a painful adjustment faces the global banking sector over the next few months”. While central banks were “determined to take whatever . . . action is necessary”, he said there was no guarantee that they could curb money market interest rates
Sir John Gieve, his deputy, said that not only was it unclear where all sub-prime mortgage losses lay, but “there is also a fear about the future of the economy, particularly in the US”.

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