A Break in the Pattern
In a much-anticipated monetary policy decision, the Bank of England (BoE) broke its streak of 14 consecutive interest rate hikes. The decision was to hold the base rate steady at 5.25%. Interestingly, the committee vote that led to this conclusion was closely divided, with 5 members in favour of maintaining the rate and 4 voting for another increase.
Reading Between the Lines
While the decision itself was critical, the market was tuned into the undercurrents and implications of this verdict. The Bank's statement that policy must remain restrictive for "sufficiently long" was a strong indicator. It suggests the intention to keep interest rates high for an extended period.
This move by the BoE is understood better in the context of recent developments around inflation. After reaching a staggering 11.1% in October of the preceding year, headline CPI inflation has taken a downturn, falling by over 4 percentage points. Such a dip was evidenced in August's figures, which came in at 6.7% year-on-year, a pleasant surprise as it was lower than the consensus expectation of 7.0%.
Furthermore, the Prime Minister's ambitious aim of halving inflation from January's 10.1% to roughly 5% by year-end appears achievable. Economic forecasts are aligned, predicting an average inflation of 4.5% in the fourth quarter.
Potential Inflationary Pressures
However, one cannot overlook potential hurdles. A significant concern arises from the energy sector. Recent months have seen a surge in oil prices, with key players like Saudi Arabia and Russia prolonging their voluntary supply cuts. This decision is in addition to the cuts by OPEC+, which are set to continue until the end of 2024. As a result, consumers can brace for an uptick in petrol prices in the imminent future.
In the UK, another inflationary pressure stems from the rental market, which hasn't reached its peak. But, there's a silver lining. The change in the Ofgem price cap slated for October promises lower energy costs, a relief for households nationwide.
What Lies Ahead for the BoE?
Given the current trajectory, it seems the BoE might have reached the zenith of its hiking cycle. But is a rate cut on the horizon? Market trends suggest a possibility of a mere 25 bps reduction by mid-2024. This aligns with the prevalent sentiment that the BoE will uphold its stringent policy throughout 2024 to curb inflation.
An empirical study by the International Monetary Fund underscores the significance of this approach. Analysing over 100 inflation shock instances across 56 nations since the 1970s, the paper deduced that countries which successfully tamed inflation did so by consistently implementing restrictive policies. The BoE, along with other central banks, would be mindful of this historical data and would be wary of prematurely easing their monetary policies.
Immediate Market Reactions
The market had a mixed response to the BoE's decision. The pound experienced a dip, plummeting to a six-month low. Conversely, UK equities experienced a surge, buoyed by the announcement.
In Conclusion
September's meeting proved pivotal, with the BoE holding the base rate at 5.25%. While the rate hiking may have plateaued, the Bank's restrictive stance on monetary policy is anticipated to persist in the foreseeable future, underscoring its commitment to tackle inflation.
Data Source: Refinitiv 21 September 2023
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