Just possibly, the Bank of England's decision yesterday not to lift British borrowing costs for the second month in succession may mark the top of its interest-rate cycle.
But City economists have called the top of the cycle before now, only to be caught out later. So there is every likelihood that financial markets will take an agnostic stance on the direction of the next rate change.
The British economy is continuing to throw off an abundance of mixed messages. Inflation rates are deteriorating significantly, with clear evidence of accelerating growth in pay inflation against the backdrop of labour shortages emerging after a prolonged period of economic growth.
Inflation, measured by the "headline" retail price index, is running at 4.2 per cent and the underlying rate excluding mortgage interest costs is running at 3.2 per cent, well above the government's 2.5 per cent target. At the same time, though, performance and prospects are worsening in important areas of manufacturing industry exposed to the rise in sterling on the foreign exchanges prompted by relatively high British interest rates.
As surging trade deficits indicate, export orders are collapsing and competition from cheap imports is increasing in domestic markets. Economic growth is faltering and leaders of industry are warning of recession in 1999. In essence, the mixed messages are spelling out the possible return of "stagflation", where inflation remains stubbornly high despite stagnant economic growth. Policies aimed at curbing inflation are compounding the difficulties faced by manufacturing industry.
But the economy may have to endure a period of slow growth, if not full-blown recession, before inflation is brought under control. Inevitably, the return to high inflation/slow growth is exceptionally disappointing. Barely 15 months since the election of the new Labour administration, uncertainty has returned to haunt business plans and destabilise investment programmes. A year ago, when new Chancellor Gordon Brown unwrapped his first budget, any economist musing on the prospects for a return to "stagflation" would have been laughed out of court.
Even then, though, the seeds of the economy's current difficulties were being sown, most notably through the Labour government's pledge not to increase income taxes for two years following its election. At the time, the momentum of economic growth was accelerating on the back of the cheap money policies of the Conservative administration in the run-up to the election in May last year. The need for post-election fiscal tightening was self-evident. Due to the election pledge not to raise income taxes, Mr Brown's tightening came through increased taxes on savings, notably pension funds, and higher indirect taxes on tobacco and petrol which have contributed to the rise in inflation. Although the measures tightened policy as a whole, household incomes were barely affected and spending continued to be encouraged by easy money. In effect, Mr Brown's policies placed the onus for curbing economic growth and restraining inflation firmly on monetary policy.
The Bank of England was made responsible for interest rate decisions shortly after the Labour government was elected and the monetary policy committee tightened monetary policy through interest rate increases last summer.
But, as consumer spending continued to grow and inflationary pressures became more intense, the need for still higher rates became apparent over the winter months and currency markets pushed sterling sharply higher in front of further interest rate increases this year.
Although sterling's rise has tightened monetary conditions, the pain of adjustment has mainly been felt by manufacturing industry. Consumer spending, the housing market and the services sector have been little affected by sterling's changes and have continued to grow strongly, providing further impetus to the unwelcome increase in inflation.
The decision yesterday not to increase borrowing costs further for the time being suggests the monetary policy committee wants to see how the economy develops before deciding on future interest-rate policy.
Higher interest rates will plainly be needed if consumer spending shows no sign of cooling down. This would push sterling higher on the currency markets and increase the risks of a "hard" landing for the economy.
By the same token, the first downward move in interest rates in response to weaker consumer spending could pull the rug out from under sterling. But lower sterling would improve the prospects for manufacturing industry and increase the chances of a "soft" landing for the economy.
