BoE set to raise interest rates again today
This week’s higher than expected CPI report has probably set the scene for a 25bps interest rate hike to be delivered from the MPC today. However, the vote is unlikely to be unanimous, with at least three MPC members – Cunliffe, Dhingra and Tenreyro – likely to maintain their dovish stance and vote for rates to remain on hold. Such an outcome should at least provide the market with some comfort that the MPC is getting close to calling time on its tightening agenda, with today’s expected increase potentially the last hike for a while as the BoE steps back to assess the impact its tightening is having on removing demand from the economy. The risk is that the ultra-hawks on the MPC – namely Haskel, Ramsden and Mann – potentially vote for another 50bps hike, taking the view that tightening policy strongly now will reduce the need for additional hiking further down the road.
Arguments for a further tightening are valid
On balance, we see the arguments for a further tightening as valid. Despite the softening seen in wages growth over the past few months, the labour market remains tight, a key fear that has been expressed by the BoE many times as it worries over the potential for a wages/price spiral. Further, economic growth – forecast by the BoE itself to be negative this year – is also holding up better than expected, suggesting more resilient demand than anticipated and potentially signalling that the tightening implemented to date has not as yet had the demand-dampening effect hoped for. This unexpected strength in the economy is directly challenging the BoE’s assumption that its anticipated recession will generate an easing in the labour market - ie a rise in the level of unemployment – potentially allowing inflation to settle above the 2% target. And into this mix can be added the unexpected modest easing in fiscal policy provided by the UK Chancellor in this month’s budget.
This week's CPI numbers likely sealed the case for a hike
But it is this week’s CPI figures that will be of the most concern and have likely sealed a further hike today. Not only did they point to inflationary pressures being broad based, they also highlighted prices continuing to rise strongly in the services sector, an area notorious for pricing pressures being ‘sticky’ and hard to bring down. Printing at 6.6%, services prices are rising at double the average rate seen over 2000-2019 of 3.3%, and with this part of the CPI basket most closely aligned to developments in the UK economy, the BoE will be concerned that it is signalling an excess of demand still persists.
And BoE needs to repair its credibility
Any case made for keeping rates on hold will centre around the need to avoid doing anything that exacerbates further the stresses being seen in the financial sector, alongside the fact that some underlying components of the CPI basket are below where they were expected to be. But, having got its ‘transitory’ inflation argument so wrong, the BoE is likely aware that its credibility is not what it was and therefore, with both the ECB and the Fed having already shown that fears over inflation trump financial stability concerns, it seems very unlikely that it will choose to tread a different path. Accordingly, a further 25bps rise is expected.