JPMorgan Chase & Co. said there’s a risk that the Bank of England will have to push interest rates as high as 7% and trigger a “hard landing” in the economy to quell inflation.
(Bloomberg) — JPMorgan Chase & Co. said there’s a risk that the Bank of England will have to push interest rates as high as 7% and trigger a “hard landing” in the economy to quell inflation.
Economist Allan Monks said some metrics suggest that the central bank’s key rate will have to rise a further 2 percentage points from the current 5% to bring inflation under control as recession risks mount.
Monks wrote in a note to clients that a hard landing for the UK economy “looks increasingly likely” and warned of “potential upside to rates if expectations do become unanchored or remain high.” He also noted “lots of caveats” to the analysis, which looked at how high rates could need to go based on mortgage interest costs and inflation expectations. His central forecast is for a much more moderate peak rate of 5.75% in November.
The remarks add to a darkening outlook for the UK economy after much stronger than expected wage and inflation data led to bets that the central bank will have to keep raising rates through the summer. Investors currently are pricing in rates touching 6.25% by the end of this year, the highest in 25 years.
Economists and investors have shifted their views rapidly, dashing hopes earlier in the year that the BOE might be able to pause its quickest tightening cycle in three decades. Instead, scenarios that were once ruled out are now creeping into the mainstream, and mortgage rates are now near 6% — a full point above the level the BOE previously identified as painful for households.
Traders now see a greater than 50% chance of rate hikes peaking at 6.5% by March, as investors and economists aggressively revise higher their expectations for UK rates. Barings is shorting UK bond futures, seeing little reprieve in the UK’s struggle with inflation, while economists at Schroders Plc boosted their call for peak rates last week, now seeing the BOE’s hiking cycle ending at 6.5%, up from a forecast of 5%.
That repricing is also showing up in yields on UK government bonds. The UK sold £4 billion ($5.1 billion) of gilts at the highest yield in 16 years on Wednesday, underscoring the elevated returns governments must offer to lure investors after more than a year of interest-rate hikes. The yield on the 2025 notes was 5.668%, the loftiest average rate on bonds since a five-year placement in June 2007, according to data compiled by Bloomberg.
For now, Monks is alone in warning about 7% rates. Most economists embrace a peak figure below the 6.25% rate investors have fully priced in. Even so, that is dramatically stronger than market bets a year ago that showed rates would remain below 2.5% for the most part across all maturities on the yield curve.
The analysis by Monks found that higher nominal wage growth is offsetting some of the blow of more costly mortgages even after an 18-month long series of rate hikes. That, he concluded, may mean the BOE will have to push its key rate to 7% to lift the mortgage interest burden to the level that was prevailing in the decade leading up to the global financial crisis in 2008 and 2009.
A second metric looking at business expectations for inflation, forecasts for core prices and an adapted Taylor Rule — a rule of thumb on interest rates and inflation — also points to rates of close to or even above 7%.
Those findings add to concerns that the BOE will struggle to bring inflation back to its 2% target. While price pressure are cooling in the US and eurozone, core inflation accelerated unexpectedly in official data released last month.
“A break in behavior, or hard landing, looks increasingly likely at some point over the next year if inflation is to be brought under control in the UK,” Monks wrote. “The main question is whether the BOE will get some help from external sources in delivering this adjustment, or whether it will have to do all the heavy lifting itself.”
Read more:
- UK Sells Government Bonds at Highest Yield Since 2007
- Sunak Has Options to Help BOE on Inflation – Just No Easy Ones
- Stubborn UK Inflation Triggers a Mortgage Crisis for Millions
–With assistance from James Hirai and Andrew Atkinson.
(Updates with context on rate bets.)
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