John Redwood

|

Evening Post   Rt Hon John Redwood MP

The main central banks are warning businesses and entrepreneurs that “risks are not properly priced” at the moment. This is Central Bank speak for saying shares, property and government bonds look dear and could fall in price.

It’s not the first time Central Banks have warned in similar terms, and in the past they have often been wrong. When the Fed saw “irrational exuberance” in share prices, there was still a good bull run ahead. The central banks have been warning for some time, yet still prices of property and equities rise, whilst bonds have not fallen very much.

The big question is how far are Central Banks going to go to force share prices and property values down? They have it in their power to spoil the party. 10% interest rates would probably do it. Maybe 8% interest rates would do it. It doesn’t look as if 5% interest rates will do it.

The Central Banks do not have a duty to keep share or property prices down. They do have a duty to keep general price rises under control, and they have just one weapon to help do this – raising interest rates. Both the US Central Bank and the UK one allowed things to get a little too frothy some months ago, as we now see in the higher inflation figures on both sides of the Atlantic. The European Central Bank thinks it has things under better control, and clearly plans more interest rate rises to make sure.

If we want to work out whether we are on the threshold of a new “bust” in a boom-bust cycle, we need to ask how serious is the inflationary threat? How much more agony do the Banks need to impose to control inflation?

The case against doing much more in either the US or the UK is simple. There is no evidence of private sector wages taking off. The might of Indian and Chinese competition is still helping keep the price of many goods and some services down. There are millions more poor people to come off the land in Asia to take low paid jobs in factories, as a step up for them. The cost reducing impact of the web on business has still not worked through fully. In the UK the big inflationary push of public sector wage rises and extra public spending is now over. Interest rates have risen substantially on both sides of the Atlantic. The mortgage market in secondary mortgages has cracked in the US, and parts of the UK property market are cooler.

The case in favour of giving the markets a further bash with high interest rates is based on  the central bank hair shirt and  caution. They argue that commodity prices have started going up again. There is still plenty of money sloshing around in the corporate sector, as we can see from all the bids and deals. The central London property market is white hot, as more and more people with city bonuses compete with foreigners who want a slice of the action. There are plenty of petrodollar owners  brandishing cash from  the oil producing lands looking for assets to buy. If you really want to stop all  this, it will take a further eye catching hike in rates.

My guess is the US and UK authorities do not have their heart in completely stopping the party, and will be relieved if inflation drops from here as it may well do. Whilst I wouldn’t be rushing to buy a London office or flat at current prices, it would be a brave person who sold out in the expectation of buying much more cheaply any time soon. The authorities on both sides of the Atlantic hope their words will calm things enough whilst the numbers improve. There are signs of slowdown in the US as a result of the action taken so far. The UK is moving from a long period when the government itself helped fuel the inflation by increasing spending rapidly, much of the increase financed by borrowing, to a more prudent path.

Businesses should worry if they have borrowed a lot of money, as they can be hit by further interest rate increases. You can repay some debt to ease the pressure, or seek to fix the rate against further increases. Businesses are also suffering from the strength of the pound where they export. Again, it is possible to take out cover for your dollar revenues for no great cost, to ease one of the things that can go wrong even from the current high level of the pound.

If the pound started to weaken against all-comers, that would be bad news. That would push prices up here, as we import a lot, and could force the Bank of England to have higher rates for longer.