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The Bank of England today voted unanimously to keep the Bank Rate at 0.1%, while members voted 7-2 in favour of continuing with its existing QE programme. The shift in the QE vote, from 7-1 to 7-2 due to Ramsden joining Saunders in dissenting, set the tone for what was to be a hawkish set of meeting minutes despite their Q3 GDP projection being downgraded by around a percentage point.
The Bank largely pointed to supply-side issues to explain why the growth outlook had been downgraded. They stated that while “official estimates of retail sales have weakened somewhat, other indicators of spending have generally remained at strong levels, as has consumer confidence”, suggesting that supply constraints have been the more deterministic factor of the recent activity slowdown. This is key for interest rate expectations, especially for UK money markets where speculation of imminent rate hikes has already been priced in.
By labelling the slowdown as supply-side driven, the Bank is acknowledging the potential transitory nature of the slowdown in economic activity, while also highlighting that inflation is set to pick up and may filter through into wages more robustly.
Should this occur, the wage-price spiral may become more entrenched, leading to the Bank of England reacting sooner to the overshoot in inflation despite growth conditions remaining tepid. This narrative was hammered home in the meeting minutes, which stated that “all members in this group agreed that any future initial tightening of monetary policy should be implemented by an increase in the Bank Rate, even if that tightening became appropriate before the end of the existing UK government bond asset purchase programme.” This is a hawkish development, even when viewed against prior market pricing that had factored in a full 15bps hike by the BoE in February. With the Bank now actively looking into why the reduction in furlough numbers hasn’t lived up to their August expectations, and whether the increase in labour supply at the end of September will be largely absorbed, any positive labour market developments are likely to stoke expectations of a rate hike as soon as November’s meeting, especially given than the majority of MPC members see conditions as necessary for a rate hike have been met.
GBPUSD jumps above the 1.37 handle as the BoE stretches it hawkish wings
For financial markets, the Bank of England’s QE voting split and their recognition that economic activity is being weighed down largely due to the supply side confirms the money market’s hawkish predisposition and has seen GBPUSD climb higher after the release.
While we think it is premature to bring forward rate hike expectations to as early as Feb 2022, the balance of risks of an earlier hike relative to our Q2 assumption has risen.
Should the expiration of the furlough scheme prove to be somewhat smooth, demand conditions improve, or the Ofgem decision result in energy prices rising again in April, February 2022 will become our base case for rate lift-off. Additionally, despite the meeting minutes suggesting a rate hike could occur this year and Dec 2021 short sterling futures dropping 3 ticks to imply markets are betting on higher rates this year at the margin, we think a rate hike this soon is an unlikely event. In our view, BoE policymakers will likely want to wait until February’s meeting to assess the full impact of the Furlough expiration. Due to the lagged nature of this data, MPC members won’t be able to assess the impact accurately this year, while in February they will have access to two full months worth of post-furlough data to drive their decision.
Author: Simon Harvey, Senior FX Market Analyst
Media Coverage
Harvey spoke with Reuters following the event, read the full commentary here.
We were also quoted in a Bloomberg article about market pricing of rates hikes from the BoE vs the Fed. Read here.