After all the excitement over a potential rate cut today, not much has changed
Still on hold. Despite the dovish signals recently by three members of the BoE’s nine member rate setting committee (including by governor Mark Carney), that prompted a roller coaster in market expectations for a possible rate cut today (Chart 1) – the BoE kept the bank rate unchanged at 0.75%. This was in line with our call. The January policy decision and minutes do not give us a reason to change our outlook for monetary policy. We continue to expect the BoE to remain dovish - but on hold - in the near-term before turning more hawkish in mid-2020 as economic activity and inflation rebounds. A likely recovery, reinforced by a fiscal stimulus, suggests the next move for rates is up. We look for a 25bps rate hike in H2 2020 to take the bank rate to 1.0% by year-end. Expect one further hike in 2021.
No change in the vote pattern, modest change in guidance
Reflecting ‘positive developments’ in the January data that suggest the economy is recovering from its late-2019 softness, the MPC voted 7-2 in favour of keeping rates on hold. The committee voted unanimously in favour of keeping its balance sheet policy unchanged. The latest guidance indicates:
(1) a near-term bias towards looser policy ‘Policy might need to reinforce the expected recovery in UK GDP growth should the more positive signals from recent indicators of global and domestic activity not be sustained or should indicators of domestic prices remain relatively weak’
(2) a medium-term bias towards tighter policy ‘Further ahead, if the economy recovered broadly in line with the MPC’s latest projections, some modest tightening of policy might be needed’. Versus the December minutes, the BoE dropped from its medium-term guidance for possible rate hikes ‘at a gradual pace and to a limited extent, might be needed’.
At face value, dropping the extra guidance on rate hikes looks dovish. However, the MPC may be pre-emptively adjusting to a likely future upward revision to its forecast for demand growth after the March 11 budget. A big fiscal stimulus may force the BoE to hike rates more sharply than it had previously anticipated.
Downgraded economic outlook despite the uptick in survey data since the election
In his final press conference as BoE governor, Carney said that ‘the conditions for a recovery are on track’. He referred to the pick-up in global economic activity and the fall in domestic political uncertainty following the election. As we had discussed in our preview for the policy meeting, the BoE remains cautious about placing too much weight on the mostly survey-based evidence that shows an improvement in economic and financial conditions since the election. Carney said that the evidence is ‘so far, good enough’ rather than ‘so far, so good’ suggesting some pessimism than the confidence uptick may not be durable. He emphasised that the BoE would need to see a sustained improvement in the hard economic data in order to not cut rates in the near-term.
Reflecting the worse-than-expected economic activity towards the end of last year, plus a further downgrade to the BoE’s estimate of medium-term potential growth, the bank downgraded its medium-term economic forecast. The BoE has cut its estimate of medium-term potential growth from c1.4% to 1.1% - entirely reflecting a lower projection for productivity. Because the BoE’s has downgraded its projection for supply more than it has downgraded its outlook for demand, it continues to see inflation risks emerging towards the end of its forecast. By 2022 the BoE now estimates excess demand of 0.75% of GDP, up from an estimate of 0.5% in its December 2019 projections. On balance, therefore, despite the downgrades to headline growth, the BoE’s expects a more inflationary balance of economic activity – that is a hawkish sign.
Expect the BoE to turn more hawkish at its May 2020 meeting
In our view, the BoE has cut its near-term growth forecast excessively (to c0.75% for 2020 from c1.25% in November). Its projection for a 0.2% qoq rise in real GDP looks low relative to the recent data uptick. It sets the stage for a material upgrade its in projections for inflation and GDP at the May Monetary Policy Report. In addition, we estimate that the fiscal stimulus announced at the March 11 Budget could add up to 0.6ppt to headline growth this year. On its own, it would thus lift the BoE’s annual projection for 2020 from c0.75 to c1.35%. Reacting to the likely upgrades to its forecasts – to well above the BoE’s updated estimate of supply potential of 1.1% – expect the MPC to tilt sharply hawkish in the coming months.
The meeting was Mark Carney’s final as governor. His term ends on 15 March 2020. He will be replaced by the current Financial Conduct Authority CEO Andrew Bailey. With extensive experience at the BoE, Bailey is a safe pair of hands, so we do not expect any major surprises when it comes to monetary policy early on in his tenure.
Kallum Pickering
Senior Economist
Phone +44 203 465 2672
Mobile +44 791 710 6575
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