Please see the below article from Evelyn Partners for their thoughts on the Bank of England Monetary Policy Committee’s decision to raise interest rates by 25bps:
What happened?
The Bank of England increased rates by 0.25% today at the May monetary policy meeting, which was consistent with market and economic expectations. This takes the base rate to 4.5%, its highest level since 2008. The Monetary Policy Committee (MPC) voted 7-2 in favour of 25bps.
What does it mean?
The Bank of England (BoE) followed the Federal Reserve (Fed) and the European Central Bank (ECB) in raising its base interest rate by 25 bps. While it appears the Fed is pausing its interest rate hiking cycle, the BoE and ECB could still have some work to do. Much will depend on the incoming data.
At 10.1% in March, UK inflation remains stubbornly high. In contrast, US and Eurozone CPI rose 4.9% and 7%, respectively in April. This divergence has been driven by two main factors. First, like the rest of Europe, the UK has experienced a major energy price shock since the Russian invasion of Ukraine.
Second, the UK has experienced far greater labour shortages than the rest of Europe, similar to what we have seen in the US. Many young European workers have left the UK after Brexit and older workers are leaving the labour force due to long-term sickness. This has placed upward pressure on wages and inflation.
As a result, markets have repriced their expectations of the peak in the UK base rate over the last month – they now expect a peak of 5% instead of 4.5%. But much will depend on the data over the next couple of quarters.
We expect to see UK inflation start to ease as the base effects turn more favourable and the impact of higher rates is felt by the real economy. In its latest forecasts, the Bank of England now expects inflation to fall to around 8% for Q2 and 5% by Q4. They expect to meet their 2% target by the end of 2024.
On the plus side, the Bank now thinks the UK will avoid recession in 2023. It revised its 2023 GDP forecast up from -0.5% to 0.25%.
Bottom Line
With inflation remaining stubborn, the Bank will continue to monitor the incoming data before deciding whether to raise interest rates again. With the Monetary Policy Committee continuing to judge that “the risks around the inflation forecast are skewed significantly to the upside” we would not be surprised to see further hikes from the MPC
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Andrew Lloyd DipPFS
12/05/2023