Bank of England Maintains Interest Rates but Signals Potential Cut

BOE Holds Interest Rates Steady

As the Swiss National Bank and the Swedish Riksbank begin to cut rates, eyes have turned to the Bank of England (BOE) to see if it will follow suit. Despite expectations, the BOE has chosen to keep its rates steady at 5.25% for the sixth consecutive meeting. However, indications suggest that the BOE may be preparing to cut rates from a 16-year high in the coming months, following the lead of its European counterparts. Two out of nine members of its Monetary Policy Committee have already voted to lower the key rate to 5%.

Deputy Governor Advocates for Rate Cut

Deputy Governor Dave Ramsden and external member Swati Dhingra have both advocated for an immediate cut in the base rate from its current level of 5.25%. The remaining seven members of the Monetary Policy Committee have opted for no change, stating they require more evidence that inflation will remain subdued.

BOE's Stance on Inflation and Interest Rates

The UK central bank has maintained its benchmark lending rate in what it terms as restrictive territory for six consecutive meetings, aiming to curb wage and price pressures that reached a four-decade high in late 2022. Forecasts released alongside the decision suggest that the BOE may need to reduce rates in the coming months, possibly before an expected general election in the autumn.

Upcoming Meetings and Potential Rate Cut

The BOE is set to meet again in June and August. A rate cut at either meeting could see the BOE act before the Federal Reserve, which is currently contemplating keeping rates higher for longer. Cutting rates before the Fed could potentially weaken the pound sterling against the U.S. dollar and increase the prices of imported goods and services. However, delaying a cut could also hinder an economic recovery and result in job losses.

BOE's Outlook on Inflation

The BOE expects inflation to rise again towards the end of this year and fall in the second half of 2025. Policymakers forecast that inflation will be slightly below their 2% target in mid-2026, even if they cut interest rates at the pace expected by investors. This suggests that the central bank is comfortable with the trajectory for its key rate expected by investors, who anticipate August as the most likely month for a first move, with two additional cuts by mid-2025 and further reductions to 3.75% by the second quarter of 2027.

Comparing Central Bank Policies

In comparison to other developed central banks, both Switzerland and Sweden have already cut their key interest rates for the first time since the inflation surge began in 2021. The European Central Bank has also strongly hinted at a rate cut in early June. These diverging policy settings reflect varying economic conditions. While the U.S. economy has seen rapid growth over the last 18 months, the U.K. and much of the rest of Europe have stalled following the surge in energy and food prices triggered by Russia’s invasion of Ukraine.

Signs of U.K. Economic Recovery

Despite these challenges, there are indications that the U.K. is beginning to recover. Economic output fell in the final six months of last year, but the BOE estimates it rose again in the first three months of 2024 and will continue to do so in the current quarter. The central bank has increased its forecast for growth this year to 0.5% from 0.25%, and its forecast for next year to 1% from 0.75%, attributing the stronger outlook to higher-than-expected population growth.

Market Reactions to BOE Decision

Following the decision, Gilts rose and the pound fell. Traders briefly priced a 50% possibility for the first 25 basis-point cut to come next month, and continued to fully price in a cut by August. Markets now imply a total of 57 basis points of cuts through 2024, compared to 54 basis points before.

Closing Thoughts

This article presents a detailed overview of the current monetary policy situation in the U.K., highlighting the BOE's decision to maintain interest rates while signaling a potential cut. It's interesting to see how central banks around the world are navigating these challenging economic times. What are your thoughts on the BOE's strategy? Do you agree with their cautious approach? Share this article with your friends and join the discussion. Don't forget to sign up for the Daily Briefing, which is delivered every day at 6pm.