Britain’s red-hot inflation may force the Bank of England to step up the pace of its interest rate rises again on Thursday against a backdrop of chaos in the UK mortgage market.
(Bloomberg) — Britain’s red-hot inflation may force the Bank of England to step up the pace of its interest rate rises again on Thursday against a backdrop of chaos in the UK mortgage market.
Economists and investors expect the Monetary Policy Committee to push ahead with another quarter-point increase in Bank rate to 4.75%, the 13th rise in what is now likely to be an extension of the quickest hiking cycle in more than three decades. Money markets place a 40% chance on a bigger half-point increase to 5%.
However, another shock inflation reading on Wednesday has opened the door to a bigger half point increase, the first since February.
All eyes will be on how BOE Governor Andrew Bailey and his colleagues address a surge in bets for UK interest rates reaching as high as 6%, which would be the highest in two decades. Rocketing rate expectations have renewed an ascent in mortgage costs and a rush by lenders to withdraw home loan products, turning the screw on Britain’s already squeezed households.
Here are the key issues to watch with the decision, which is due to be announced at 12 p.m. London time:
Rate Bets
The BOE could be forced to confront the huge surge in investor bets on higher interest rates in recent weeks following the surprisingly strong price and wage data. Shortly before the May meeting, investors expected rates to peak at just below 5%. Since then, surprisingly strong signs of inflation have prompted that betting to move toward 6%.
The minutes of the BOE’s last meeting promised further tightening in policy if there was evidence of “more persistent pressures.” This time, the BOE is facing a trickier balancing act after the market surge.
While the price and wage data is running hot, most of the previous hikes are still feeding through to the economy. Also, the US Federal Reserve has already paused its rate rise cycle.
Back at November’s meeting, the BOE explicitly pushed back against rate expectations that had run too high in the wake of former Prime Minister Liz Truss’s disastrous economic program. But the bar could be higher for such an intervention this time given the strength of recent figures.
“With inflation consistently coming in hotter than expected, we suspect officials will be more reluctant to offer any firm guidance on what comes next,” said James Smith, developed markets economist at ING.
Red-Hot Inflation
The BOE is likely to signal that forecasts due out in August will show inflation is stickier than previously expected, reflecting surprisingly strong data in April and May.
Wednesday’s data showing inflation holding at 8.7% in May was the fourth straight month of stronger-than-expected data. Underlying price pressures picked up to their highest in 31 years, defying expectations for a rapid fall in inflation this year.
While the BOE will not lay out any new forecasts in full until its next meeting concludes on Aug. 3, it could use Thursday’s minutes to warn about a darkening outlook for both inflation and growth.
Mortgage Turmoil
The jump in rate bets has fueled a renewed rise in mortgage rates, which will ramp up the pressure on the 1.3 million households due to refinance fixed-rate loans between April and the end of this year.
Data from Moneyfacts shows that the average rate on a two-year fixed deal exceeded 6% in the run-up to today’s MPC vote, moving closer to the 14-year high hit late last year.
At current rates, the average mortgage holder will pay almost £280 more each month compared to a scenario where March 2022 borrowing costs persisted, according to the Institute for Fiscal Studies. That is equivalent to 8.3% of their disposable income.
The BOE may comment on whether it expects the latest surge in mortgage rates to further dent demand and impact its next forecasts.
What Bloomberg Economics Says …
“A string of hotter-than-expected pay and inflation data has raised the chances that the Bank of England delivers a 50-basis-point hike at its June meeting. Our baseline view is that the central bank will err on the side of gradualism, given the ground covered to date, and opt for a smaller move with a hawkish message in the minutes of the meeting.”
— Dan Hanson and Ana Andrade, Bloomberg Economics. Click for the PREVIEW.
Vote split
The nine-member MPC’s chief dove, Silvana Tenreyro, will likely lead the dissenters on the committee for a final time as her time as a rate-setter draws to a close.
Most economists expect a 7-2 split backing a quarter-point hike, the same divide that has appeared at the previous three meetings. However, Wednesday’s inflation reading raises the chances that at least one rate-setter, such as hawk Catherine Mann, could back a bigger increase.
Neil Shearing, chief economist at Capital Economics, said the meeting is “finely balanced” but that the “ugly inflation print” tips the balance to a half point rise on Thursday. The arrival of Kroll Institute global chief economist Megan Greene on the MPC from July 5 could edge the committee toward a more hawkish direction given she is replacing Tenreyro.
Quantitative Tightening
The debate over the BOE’s reversal of quantitative easing is set to come into view ahead of a decision on the run-off of its balance sheet of bonds due in September. The BOE bought as much as £895 billion of bonds to keep a lid on market interest rates since the global financial crisis and is now winding down that program in a move dubbed quantitative tightening.
Deputy Governor Dave Ramsden hinted last month that active sales of gilts could increase in the second year with the BOE currently reducing its bond portfolio at a pace of around £80 billion per year. However, Goldman Sachs argued earlier this week that the BOE will in fact cut the pace given the market volatility and amount of gilts investors need to absorb.
Read more:
- UK Inflation Overshoots Again, Boosting Pressure on Rates
- Why UK Inflation Is So High and Tough to Bring Down: QuickTake
- BOE’s Interest Rate Hikes Are Taking Longer to Curb UK Inflation
- Britain’s Economic Turmoil Is Hitting Women the Hardest
–With assistance from James Hirai.
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