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Bank of England Super Thursday - one hawk down

  • What to expect from the Bank of England this Thursday
  • Chances of an interest rate rise
  • Interest rate outlook

This Thursday sees the quarterly brain dump from the Bank of England as we get an interest rate decision, MPC minutes, and an inflation report which tells us how the UK economy looks from Threadneedle Street.

The last inflation report, in May, forecast growth of 1.9%. Given it now turns out the economy grew by 0.2% in the first quarter, and 0.3% in the second quarter, this is likely to be downgraded.

The last meeting of the Monetary Policy Committee surprised markets with three members of the committee voting to raise rates. However a rate rise on Thursday is now given just a 1 in 20 chance by interest rate markets. That’s because three key things have happened since the last vote.

  1. One hawk down- Kristin Forbes, who has voted for an interest rate rise in the last three meetings has left the Monetary Policy Committee. She is replaced by Silvana Tenreyro, whose voting proclivities are not yet known, though it seems probable she won’t want to rock the boat by voting for a rate rise in her first outing. Of the other seven members of the committee, five have never voted for a rate rise. Two have; Ian McCafferty voted for a rate rise in June, and has done so a number of times in the past, though June was the only occasion since the EU referendum. Michael Saunders, who joined the committee last September, also voted for a rate rise in June of this year, the only time he has done so.
  2. Second quarter GDP came in at just 0.3%. That leaves the bank’s existing forecasts for economic growth in 2017 looking stretched, and hence is likely to dissuade members from voting for a rate rise, lest they damage an already weak economy.
  3. The Consumer Price Index fell back to 2.6% in June, down from 2.9% in May, relieving pressure on the central bank to raise rates in order to curb inflation.

All in all, this suggests the dovish balance of power in the committee will be maintained or strengthened on Thursday.

Effects of a rate rise

A rate rise would serve to contain the growing consumer credit bubble. Unsecured borrowing now stands at £199 billion, the highest level since 2008, and up 8% in the last year. A rise in base rate would also serve to boost the pound, and that would help bring inflation down again. However it would also heap more pressure on UK households by raising mortgage repayment costs, at a time when wage growth is weak. It would also increase the costs of unsecured borrowing, which would be difficult for many consumers. Indeed, writing in the Times today, FCA chief Andrew Bailey says 2.2 million borrowers are already in financial distress, with interest rates at present levels. So despite legitimate reasons for hawkishness, the Bank of England is still likely to keep rates on hold for some time to come.

Interest rate outlook

Markets are pricing in a 40% chance of a rate rise by the end of the year. We should bear in mind that even if it materialises, a rate hike would only take us back to where we were at the beginning of last August, before the EU referendum result prompted the Bank of England to cut base rate to 0.25%.

The longer term outlook for interest rates is still weak. The Office for Budget Responsibility thinks rates will only rise to 1% by 2022, 15 years after the financial crisis started. And one thing we do know about such forecasts, is that for the best part of a decade they have consistently over-egged the prospects of interest rate rises.