BoE keeps rates unchanged, no surprises
By Alexander Bueso
Date: Tuesday 06 Nov 2018
(Sharecast News) - No surprises. Rate-setters at the Bank of England opted to keep a steady hand on the tiller at Wednesday's Monetary Policy Committee meeting, keeping their policy settings and guidance roughly unchanged until the Brexit-related fog of uncertainty had lifted, instead of perhaps adding to it.
Bank Rate was kept at 0.75%, the size of its government bond purchase programme at £435bn and that for corporate debt at £10bn, all by unanimous decisions, with the MPC continuing to guide towards one hike in Bank Rate a year out to 2021, although its forecasts for interest rates and consumer prices did edge higher.
Indeed, given all the uncertainty in the air, around Brexit and from overseas, Bank's forecasts for the UK economy were not only little changed but arguably not too poor either, although that of course was premised on a "smooth" Brexit.
The MPC's mean projection, working on the basis of the above assumption, was for Britain's gross domestic product to expand at a pace of 1.7% each year between 2019-2020, with headline consumer price inflation running just a tad above target in 2019 and 2020, before falling back to 2.0% at the end of 2021.
Its forecasts for Bank Rate were also nudged a smidgen higher for 2019 and 2020, but nothing consequential.
That was despite having bumped-up its forecasts for the oil price, although Sterling was forecast to remain surprisingly stable over the forecast horizon.
However, all of the above also excluded the impact of the Chancellor's surprise tax cuts included in the Autumn Budget, the impact of which BoE officials said they would discuss at their next meeting.
In the wake of Philip Hammond's budget surprise, some analysts estimated that those modest tax cuts called for an additional 25 basis points of rate hikes. Combined with the possibility that Westminster might succeed in securing a smooth Brexit, that led them to expect two hikes in Bank Rate over the course of 2019.
Financial markets on the other hand had been quite volatile in the run-up to Thursday's policy announcement and quarterly Inflation Report, pricing-out any chance of a rate hike next year, whereas in early October they had at one point almost been discounting two hikes.
Similarly, as was pointed out in page 11 of the IR, six-month Sterling-US dollar risk reversals had fallen since the August MPC, showing that some investors had been moving to protect themselves against the risk of a no-deal or disruptive Brexit.
The IR also revealed that only a few companies had begun to implement contingency plans, partly due to the caution about tying up cash flow to build inventory.
Brexit aside, the minutes of the MPC also revealed that policymakers had held wide-ranging discussions around a raft of risk factors overseas.
Those included volatility in global capital markets, tighter financial conditions, especially in Italy, slower growth in the euro area and the risk of a further escalation in global trade tensions.
A more hawkish set of forecasts?
The MPC's forecasts for Bank Rate continued to be for one 25 basis point hike each year, although the forecast horizon for the November IR now extended out to 2021, versus just 2020 in the August IR.
As well, the BoE was now projecting Bank Rate to reach 1.2% in 2020 (as implied by forward market interest rates over the 15 working days to 24 October), versus 1.1% in August, and yet CPI was now seen at 2.1% at the two-year horizon in 2020, up from 2.0% previously.
On a related note, during the presser, Governor Mark Carney did say on multiple occasions that a 'no deal' Brexit was "not" the most likely scenario.
BoE staff forecasts were instead based on the average of the potential range of outcomes.
But perhaps most importantly, although the central bank's GDP forecasts were unchanged from August, it was now projecting there to be so-called 'excess demand' in all three years.
Economists disagree, as ever
Commenting on the MPC's latest decision, Samuel Tombs at Pantheon Macroeconomics told clients: "The MPC's inflation forecasts, meanwhile, still look too high to us, given that domestically-generated inflation is below-target and the import price boost is fading quickly.
"Accordingly, we continue to assume that the MPC will wait until May to raise Bank Rate again. Two hikes next year, however, remain a good bet, given the potential for a period of above-trend GDP growth supported by some fiscal stimulus and a recovery in investment."
Andrew Goodwin at Oxford Economics disagreed, explaining that the MPC's forecast for inflation above 2% at the two year horizon was too "bullish".
One reason for that was Bank's working assumption that the effective Sterling exchange rate would remain flat over the next three years, whereas Goodwin believed it would in fact strengthen in case of a Brexit deal.
As an aside, BoE staff's forecasts for the path of the effective Sterling exchange rate index over the forecast horizon, which was flat at 79.0 for between 2018 -21, was the result of their convention of assuming a path between the ERI's starting level and the path implied by interest rate differentials.
Goodwin also expected any wage-driven pick-up in core inflation to be more subdued than Bank did.
"If there is a withdrawal deal, then the Bank's forecasts imply a slightly faster pace of tightening than markets anticipate.
"However, we remain sceptical that the data will support more than one rate hike next year."
Economists at Barclays Research were even less hawkish, telling clients: "[...] the rebound expected by the Bank [in investment decisions] remains limited but still the communication today sounded quite optimistic. We are somewhat skeptical regarding this point as when discussing Brexit with our clients, we have a greater sense that businesses are bringing forward contingency plans (build up and relocation of operations and infrastructures outside the UK) rather than merely delaying important investment decisions.
"[...] our expectations are that as data confirm the Bank's expectations, and assuming the Withdrawal Agreement is ratified by February 2019, the Bank will turn confidently hawkish and suggest imminent rate action. However, if growth confirms our forecasts and falls short of the Bank's expectation, than status quo is the most likely outcome in 2019."
As of 1512 GMT, cable was higher by 1.46% to 1.29523.
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