Who are the Bank of England’s spies on the ground?

The Bank of England has a network of Regional Agents operating across the length and breadth of the UK. Think of the Regional Agents as a form of intelligence network designed to give the Bank of England a feel for what is really happening on the ground.

When the Monetary Policy Committee assembles to make their judgement on official base interest rates, they are treated to an extra-large helping of macroeconomic data covering not just the British economy but also key developments in the international economic and financial system.

Each member of the MPC must make up their own mind on what to do based on an interpretation of what is happening and what is likely to happen to growth, inflation and jobs. It is no easy task.

Much of the information laid before the MPC is built around business and consumer surveys.

In recent years the emphasis given to survey data has probably increased, particularly if they are thought to have a decent track record in identifying important turning points in the economic cycle.

The Regional Agents survey is a snapshot of business sentiment and the data is fed through to the Monetary Policy Committee.

Each month the twelve Agents interview around 700 different businesses, making sure that there is an appropriate cross-section of companies in terms of sector, location and size.

The Agents then send a subjective interpretation of their findings from these meetings – normative economics at work! They give a score on each of a range of headings – the ones we will focus on in this blog are capacity constraints, employment intentions, investment intentions and cost and price pressures.

The score for each economic indicator ranges from -5 to +5, with -5 typically denoting a rapidly falling level and +5 representing rapid growth. So a score of +5 for retail services prices would indicate rapid price inflation for those services whereas a score of zero would imply little change in inflationary pressures over the preceding three months.

What is the data telling us at the moment?

We will consider briefly four indicators

Employment intentions

There has been a steep decline in forward-looking intentions on the jobs front. The score of -1.5 in October indicators that businesses are looking to make job cuts as the recession bites. Whereas manufacturing employment has been weak for sometime, the anticipated labour-shedding is spreading to the service sector – notably financial industries and retailing together with services linked to the depressed housing market.

Investment intentions

In a similar vein, businesses in both manufacturing and service sectors are starting to curtail their capital investment programmes. The collapse in sentiment in services on this indicator is noticeable. And this comes before the worst of the recession becomes clear.

Capacity constraints

This indicator asks businesses whether a shortage of capacity is holding back their production levels.

Towards the end of 2007 this was a real concern for many service firms but the turning point of the economic cycle is changing all of this. Businesses will be left with plenty of spare capacity as the next year unfolds. This is one reason to expect a sharp reduction in inflation as firms look to discount prices in a bid to maintain sales volumes.

Failing that we will see plant closures, in other words the scrapping of capital as demand falls.

Costs and the pressure to raise prices

Whilst our first three charts have all reinforced the argument that the UK economy is heading into a steep downturn, the final chart which tracks pressures on costs and prices has been heading northwards – notice for example the sharp rise in prices of raw material costs from the middle of 2007 onwards which only now seems to be moderating.

Manufacturers are still considering raising their prices – perhaps they expect to take advantage of a more competitive exchange rate?

The Bank of England will be watching this particular chart carefully. If, by the end of the year, the Regional Agents survey is hinting that firms are under less pressure to raise their selling prices, the outlook for inflation will improve, creating extra room for what is expected to be aggressive interest-rate cutting in the next six months.

More on the methodology behind the Regional Agents Survey scores is available here: