According to predictions of economists, the Bank of England will potentially raise interest rates twice this year which would be a first since 2004 for the central bank. The UK central bank is trying to lead the UK economy through persistently high inflation and hence raise rates.
The Bank of England kicked off rate hikes in December, raising its main interest rate from 0.1 per cent, which was a historic low, to 0.25 per cent. Since then, research has shown that consumer prices in the United Kingdom rose to a 30-year high in December, owing to increasing energy costs, resurgent demand, and supply chain difficulties.
Despite the omicron Covid-19 variant spreading swiftly across the United Kingdom and threatening to undermine the economic recovery once more, the Bank of England raised rates in December.
However, in recent weeks, the Covid outlook has brightened, heightening expectations for a 25 basis point rise on February 3.
“If December’s surprise rate hike decision taught us anything, it was, firstly, that the Bank – and especially Governor Andrew Bailey – is clearly worried about elevated rates of headline inflation and the risk of a virtuous wage-price cycle,” James Smith, developed markets economist at ING, said.
According to Smith, the high-frequency data indicates that omicron will have only a “modest and short-lived” impact on the economy, thus a rise of 25 basis points to 0.5 per cent is the most likely path that the central bank would take.
The Monetary Policy Committee is expected to vote unanimously in support of a 25 basis point increase, according to Deutsche Bank senior economist Sanjay Raja.
“With the Bank Rate reaching 0.5%, we expect the MPC to confirm that all APF (asset purchase facility) reinvestments will cease following the February decision,” Raja said in a note Thursday.
“This would see roughly GBP 28bn of reinvestments (~3% of APF) fall out from the Bank’s balance sheet next month with a further GBP 9bn dropped over the remainder of the year.”
The MPC’s key message, according to Raja, will be that more gradual tightening will be required to keep the economy steady, with economists currently anticipating inflation to peak at 6.5 per cent and take longer to decrease, remaining above the Bank’s 2 per cent objective in two years.
“Worries around rising wage expectations and thus services inflation, alongside lingering supply chain pressures should give the MPC further ammunition for more rate hikes over the next several quarters,” Raja said.
Furthermore, Deutsche Bank expects the MPC to emphasize the inflation outlook’s large confidence ranges.
“The jump in inflation, and particularly energy bills, should weigh on future demand. Tightening global financial conditions should also restrain global growth, and therefore U.K. external demand, and rate rises should also push up borrowing costs for households and firms, tempering GDP growth,” Raja said.
“We continue to see the MPC projecting excess supply at the very end of the forecast horizon (three years out), with inflation sitting below the Bank’s 2% target and the unemployment rate edging up as a result.”
This would allow the Bank to maintain its message of “moderate” tightening, and Deutsche predicts another 25-basis-point boost in August, followed by hikes in February and August 2023, bringing the Bank Rate to 1.25 per cent.
The Covid-19 pandemic situation has gotten better, and inflation is still running even hotter than projected, prompting BNP Paribas to move forward its estimate for the next hike from May to February. Similarly, the economists at the French lender do not believe the MPC’s messaging will lead to any more hawkishness, and they predict a 25-basis-point boost on Thursday.
“In doing so, we expect the monetary policy committee to kick start the process of balance sheet reduction,” BNP Paribas economists said in a note on Wednesday.
“Still, the MPC is likely to be less hawkish next week than the action alone would imply, while we remain of the view that it will deliver a more gradual pace of rate hikes than is priced into markets.”
(Adapted from FT.com)