– MPC voted 7-2 in favour of keeping rates unchanged at 0.25%, as widely expected
– MPC voted 9-0 in favour of maintaining the stock of corporate and government bond purchases.
– Rhetoric was on the hawkish side, which was ultimately the driver of markets in the wake of the decision.
– A Reuters weighted basket of interest rate swaps and futures is now fully pricing a hike for March of 2018 (August 2018 was fully priced heading in to the decision) while the same metric prices a 36% chance of a hike at the Bank’s next meeting and a 56% chance of a hike by the end of 2017.
7-2 Vote Split, Haldane Holds Off For Now: –
The Bank of England’s Monetary Policy Committee voted 7-2 in favour of keeping rates unchanged at 0.25% (as expected by 19/20 surveyed analysts), and voted 9-0 in favour of maintaining the stock of corporate and government bond purchases at their current levels.
Ian McCafferty and Michael Saunders both remained in the dissenting camp, while there had been some speculation that BoE chief economist Andy Haldane could switch to the hawkish camp (albeit, an outside chance, and an idea that was also mooted around the September meeting following speeches that he made back in June) after headline CPI moved back up to 2.9% in August.
It is worth noting that much of the inflation is as a result of GBP devaluation post-Brexit, as opposed to any domestic demand factors pushing prices higher. Of course, the growing gap between inflation and real wage growth is further crimping the consumer, as has been widely discussed elsewhere.
The Accompanying Statement, Zeroing In On The “Coming Months”: –
The focus quickly moved past the vote split and on to the statement (a full copy of the statement is available here). The key passage revealed that “a majority of the MPC judge that, if the economy continues to follow a path consistent with the prospect of a continued erosion of slack and a gradual rise in underlying inflation pressure then, some withdrawal of monetary stimulus is likely to be appropriate over the coming months in order to return inflation sustainability to target.” Although the Bank did highlight that “any increases in the bank rate are expected to be at a gradual pace and to a limited extent.”
The Bank also reiterated its view that the interest rate markets are under-pricing the chance of policy tightening, opining that “if the economy progresses as the August QIR forecasts then monetary policy could need to be tightened by a somewhat greater extend over the forecast period than current market expectations.”
The statement also noted that the BoE expects inflation to overshoot its 2% target over next three years, while it also expects CPI to exceed 3% YY in October.
In terms of economic progress, the Bank suggested that “since the August report, the relatively limited news on activity points, if anything, to a slightly stronger picture than anticipated” and that “underlying pay growth has shown some signs of recovery, albeit remaining modest.”
The BoE concluded that these “developments suggest that the remaining spare capacity in the economy is being absorbed at a little more rapidly than expected at the time of the August QIR.”
Market Reaction: –
While the initial 7-2 vote weighed on GBP and pushed Gilts higher, the language in the Bank’s statement saw GBP shoot higher, with GBPUSD printing fresh session highs around 1.3340 after trading around 1.3210 pre-decision.
Gilts were trading over 60 ticks lower on the day at the time of writing, just above 125.40. Short sterling futures were also sharply lower, with the red contracts trading 9-10 ticks lower at the time of writing.
In terms of broader policy implications, a Reuters weighted basket of interest rate swaps and futures is now fully pricing a hike for March of 2018 (August 2018 was fully priced heading in to the decision), while the same metric prices a 36% chance of a hike at the Bank’s next meeting (where the press conference gives Governor Mark Carney space to explain any move) and a 56% chance of a hike by the end of 2017.
Where Does The BoE Go From Here? Questions Over Its Credibility Do Not Help Its Cause: –
Looking forward, ING’s analysts “certainly don’t rule out the possibility that the BoE reverses last August’s emergency rate cut quite soon, economic uncertainty relating to Brexit and the risks this poses for activity means that such action would not be the start of a new tightening cycle. Moreover, if there is concrete action on a meaningful Brexit transitional deal this would help boost sterling and could dampen the medium-term inflation threat. As such, the prospect of a series of rate hikes seems remote.”
ING’s Viraj Patel gave his base case as:
The BoE’s credibility continues to come under increased scrutiny with many central bank watchers using the label “the boy that cried wolf” in the aftermath of the decision. IHS-Markit’s Chris Williamson points to the UK PMI’s (as compiled by his employer) which are in “dovish territory” by his reckoning, and suggests that “2014 was arguably a more appropriate time than now for the BoE to have started to normalise interest rates.”
2014 was also a time when BoE Governor Carney suggested that an interest-rate rise “could happen sooner than markets currently expect,” which could cloud judgement as the BoE continues to reiterate that interest rate markets are under-pricing the chance of policy tightening.
Nomura, who have been an outlier with their BoE calls, noted that “the BoE have been upping the rhetoric and this was one of the final hurdles in their communication steps.” Do note Nomura’s baseline looks for a November hike (they were calling for a hike back in August although their reasoning was heavily caveated).