Bank of England braces for biggest rate hike in 27 years as inflation soars

LONDON-FEB 3: Bank of England Governor Andrew Bailey leaves after a news conference at the Bank of England on February 3, 2022 in London, England. The Bank is expected to raise interest rates for a fifth consecutive meeting on Thursday, but faces a difficult balancing act between supporting growth and reining in inflation.

Dan Kitwood | Getty Images News | fake images

LONDON — The Bank of England is expected to raise interest rates on Thursday by 50 basis points, its biggest increase since 1995.

Such a move would push borrowing costs to 1.75% as the central bank battles runaway inflation and would be the first half-point hike since it gained independence from British rule in 1997.

UK inflation hit a new 40-year high of 9.4% in June as food and energy prices continued to rise, deepening the country’s historic cost of living crisis.

Bank of England Governor Andrew Bailey suggested in a hard-line speech on July 19 that the Monetary Policy Committee might consider a 50 basis point hike and promised there would be no “ifs or buts” in the Bank’s commitment. return inflation to its 2% target. .

A Reuters poll last week indicated that more than 70% of market participants now anticipate a half-point rise.

James Smith, a developed markets economist at ING, said that although economic data since June’s 25 basis point increase had not moved the needle significantly, the MPC’s previous commitment to act “strongly” to reduce inflation and the market roughly pricing by 50 basis points at this stage means policymakers are likely to err on the aggressive side.

“Still, the window for further rate hikes appears to be closing. Markets have already lowered expectations of ‘top’ bank rates from 3.5% to 2.9%, although that still implies two rate hikes.” 50 bps more for December, and a little more after that,” Smith said.

“That still feels like a stretch. We have been targeting a peak for the bank rate at 2% (1.25% currently), which would mean only a further 25bps rate hike in September before policymakers policies stop adjusting”.

He acknowledged that in practice this could be an underestimate, and depending on the signal the bank sends on Thursday, ING would not rule out a further hike of 25bps or at most 50bps beyond that.

Smith said the key points to watch in Thursday’s report would be whether the Bank continues to use the word “strongly” and its forecasts, which connect market expectations with the Bank’s models and expected political trajectory.

If forecasts indicate, as in previous iterations, an acceleration in unemployment and inflation well below target in two to three years, markets could deduce a more dovish message.

“Everybody takes that as a sign that they’re saying ‘okay, well, if we meet what the markets expect, then inflation will be below target,’ which is their very roundabout way of saying ‘we don’t need to go up as aggressively as the markets are waiting,'” Smith told CNBC on Tuesday.

“I think that will repeat itself, I hope, and that should be taken as a sign that maybe we are getting closer to the end of the tightening cycle.”

growth concerns

A more aggressive approach at Thursday’s meeting would bring the Bank’s monetary tightening path closer to the trend set by the US Federal Reserve and the European Central Bank, which implemented hikes of 75 and 50 basis points last month, respectively. .

But while it may strengthen the Bank’s credibility in fighting inflation, the faster pace of adjustment will exacerbate downside risks to an economy that is already slowing.

Berenberg’s chief economist, Kallum Pickering, said in a note Monday that Gov. Bailey would likely win a majority of the MPC’s nine members if he backed a 50 basis point hike on Thursday, projecting that since inflation is likely to continue increasing¸, the Bank will raise another 50 bps in September.

From then on, the outlook is uncertain. Inflation is likely to peak in October, when the energy price cap for households rises again. Amid mounting evidence that tighter monetary conditions are weighing on demand and core inflation, we expect the BoE to hike another 25bps in November. but take a break in December,” Pickering said.

Berenberg expects the bank rate to hit 2.5% in November from 1.25% today, though Pickering said the risks to this call are tilted to the upside. He suggested that the BOE should be able to reverse some of the tightening during 2023 as inflation starts to reverse, and is likely to cut the bank rate by 50bps next year with a further 50bps cut in 2024.

Increase in the price of energy

Britain’s energy regulator Ofgem raised the power price cap by 54% from April to match rising global costs, but it is expected to rise further in October, with annual bills forecast to rise. household energy bills exceed £3,600 ($4,396).

Historically, Barclays has been cautious about bank rates, putting a lot of faith in the MPC’s “early and gradual” strategy. However, UK Chief Economist Fabrice Montagne told CNBC in an email last week that there is now a case for policymakers to act “strongly” as energy prices continue to spiral.

“In particular, rising energy prices are being reflected in our Ofgem price cap forecast and will force the BoE to revise its inflation forecast upwards once again. Higher inflation for longer is the type scenario that scares central banks due to higher risks of persistence and indirect effects,” he said.

The British banking giant now expects a 50 basis point hike on Tuesday, followed by 25 basis points in September and then a 2% “status quo”.

Leave a Comment