The Bank of England is likely to signal growing confidence that UK inflation is heading in the right direction, despite recent setbacks in the US, as policymakers weigh the case for an immediate interest rate cut this week.
The Monetary Policy Committee is expected by investors to keep the key rate of interest unchanged at 5.25 per cent when it meets on Thursday. But recent statements suggest two or more officials are already prepared to vote for a downward move.
Dave Ramsden, a BoE deputy governor, last month raised the prospect of a lower inflation forecast when the central bank sets out its latest projections. Some economists read his speech as a sign he feels confident enough to advocate rate cuts.
External MPC member Swati Dhingra already voted for rate reductions in February and March. BoE governor Andrew Bailey has hinted he is also getting close to advocating an easing in monetary policy, telling the Financial Times in March that rate cuts were “in play” and that recent data showing inflation was easing was “encouraging to me”.
“The market is underestimating the push among MPC members led by Bailey to start cutting rates soon, and while I don’t think it will happen on Thursday they should have enough votes in June,” said Jens Larsen of Eurasia Group, a consultancy.
“The underlying data in the UK is quite weak. I don’t see inflationary pressures intensifying, and the UK is a very different place from the US. There is good reason for them to get on with it,” he added.
Financial markets are only fully pricing a UK rate reduction from September, as investors point to the Fed’s problems with stubborn inflation as grounds to suspect other central banks will tread carefully before easing.
The OECD on Thursday said it does not expect the BoE to start reducing rates before the third quarter, as it flagged “sticky” services price growth.
Chair Jay Powell on Wednesday warned it will take longer than expected for the Fed to “gain confidence” that inflation is on a sustainable path to 2 per cent. The comments follow a string of disappointing data, including an increase in the Fed’s preferred metric of price growth to 2.7 per cent in March — above analyst forecasts.
However, leading central bankers in Europe including Bailey and Christine Lagarde of the European Central Bank have been insisting that they will not suffer the same difficulties getting inflation back to target because price growth in Europe and the UK is less demand-led than in the US.
“European inflation dynamics are somewhat different,” Bailey said during a visit to Washington DC on April 17.
UK inflation eased slightly less than expected in March, falling from 3.4 per cent to 3.2 per cent rather than the 3.1 per cent analysts had forecast, while annual growth in the price of services also slowed less than expected, from 6.1 per cent to 6 per cent.
However, Bailey quickly made it clear he views the BoE’s broader outlook to be “pretty much on track” with the February inflation forecast, adding that he expected a further sharp drop to price growth in next month’s numbers.
In March, he emphasised that he did not need to see a halving of growth in wages and prices — from around 6 per cent — to feel confident that headline inflation was durably headed to the 2 per cent target. “You need to have confidence that it’s heading in that direction,” he said.
The key question is what MPC members need to see that would allow them to start reducing rates, with markets putting the probability they will remain unchanged at more than 90 per cent.
Recent increases in gilt yields and market expectations for BoE rates mechanically push down the bank’s upcoming inflation forecast, said George Buckley of Nomura, although there could also be forces working in the other direction — including notably higher oil prices.
“Combining these influences, we think the Bank might show a slightly lower end-horizon forecast for inflation,” he said in a note.
Ramsden told an event in Washington last month that he saw downside risks to the BoE’s February inflation forecast, which might suggest he sees a good case for an immediate rate reduction.
But BoE chief economist Huw Pill subsequently sent a clear signal that he does not believe the conditions are in place for an immediate cut, stating he had “a relatively cautious approach to starting to reduce bank rate”.
Pill is likely to be joined by external MPC members Jonathan Haskel, Megan Greene and Catherine Mann in advocating unchanged rates this week.
After years of above-target inflation, which peaked at more than 11 per cent, policymakers including Pill are still wary of easing too soon given the risks of high inflation getting embedded in public expectations.
Haskel told the FT in March that he was a “gradualist” when it comes to rate cuts given the need to be sure that underlying inflation has been decisively quashed.
Crucially, the BoE will have two fresh readings under its belt when it convenes in June, as well as extra jobs numbers.
Allan Monks, UK economist at JPMorgan, said he expects this week’s meeting to leave “ambiguity that keeps several options open” on the timing of rate reductions.
However, he added: “Members have been at pains to argue they are not following the Fed, and do generally seem happy to signal that an easing shouldn’t be too far off given relative demand weakness in Europe.”
