The one percentage point rate cut in Australia overnight has increased speculation that major central banks are planning to “shock” markets with large-scale and/or co-ordinated interest rate action.

When analysing past interest rate decisions in order to construct the MPC-ometer, I found the MPC had behaved unusually following the 9/11 terrorist attacks, cutting rates earlier and by more than suggested by economic and financial data. This was counterbalanced by a less dovish stance than warranted by incoming news in later months. I accommodated this behaviour in the model by including a 9/11 “dummy variable”.

Escalating financial turmoil in recent days risks damaging economic confidence in a similar way to the 9/11 attacks, suggesting the MPC will again choose to bring forward easing as insurance against a worst-case scenario.

In terms of the MPC-ometer, this can be analysed by “switching on” the 9/11 dummy variable. Using the model to predict this week’s decision based on the current level of Bank rate, the forecast then changes from a quarter- to a half-point cut. If three-month LIBOR is used instead of Bank rate, a three-quarter point move is predicted.

If the post-9/11 period is a guide, however, any shock move this week will represent a shift in the timing of MPC action rather than implying a lower ultimate level of official rates.

A week ago most economists thought it was too early to cut rates. Now there will be disappointment with a half-point reduction.