Monetary policy

The growth rate of the UK labour costs in 2018 was the fastest over the last 5 years, according to data from the Office for National Statistics. This may put pressure on the Bank of England to increase rates, since wages grew faster than labour productivity, adding more inflationary pressure. However, on the other hand, the uncertainty due to Brexit is ahead of the UK economy. The Bank of England wants to mitigate the negative effect from exiting the European Union on the UK economy while increasing base rates may do the opposite.

If the Bank of England has its own objective function (as what many economic theories say so), the Bank of England is still able to find an appropriate rate that balances the economic outcome as well as the inflation rate. However, the market does not exactly know the Bank of England’s objective function and many people often see the monatary policy in a very simple way that they see rate cuts as the Bank of England stimulating the economy and rate hikes as the Bank of England mitigating economic expansion. If the entire economy and the market see the Bank of England’s strategy in such a simple way, then it is very likely for the market and the economy to misunderstand the interpretation and implication behind the Bank of England’s monatary policy, and this is why central banks always make detailed statements regarding their monatary policies.

There is a problem in central banks’ statements. Sometimes, central banks’ statements are quite technical that only experts can fully understand the statements; however, not all people have the time to read through the statements and try to fully understand the statements immediately (maybe with the help of experts) after the statements are released. Then what they will do is often they try to seek the most crucial decision, the rate, to try to have some sense about the central bank’s expectation of the market and the economy. The conclusion drawn in such simple and rush way is highly likely to be inaccurate but can cause herding effects in the market since others may believe the first movers or information spreaders (such as news media) have the accurate information.

Therefore, monetary policy is something very complicated and even possible to cause high volatility in the very short period once central bank statements are released.