BoE Meets Thursday – Recent Data Dictates Interest Rates Have Nowhere to Go But Up

After recording some unwelcome inflation and wage growth figures in the previous month, expectations for an interest rate increase this week from the Bank of England (BoE) have risen sharply.

After the last rate increase by the BoE’s monetary policy committee handed down in May, the benchmark interest rate is now 4.5%. Current market expectations point to a rate hike at the upcoming meeting this Thursday, followed by more hikes up to a high of anywhere between 5% and 6% depending on which economist or institution you ask.

Just recently, 52 of the 64 economists who responded to a Reuters poll predicted that interest rates will peak by the end of August, with the median projection placing it at 5.00%. While also according to Reuters, 11 banks have predicted that the peak would be higher, at 5.25%, including five gilt-edged market makers who are main dealers in UK government bonds. One analyst polled predicted that it will peak at 5.50% in Q4.

Across the Channel, inflation in the Eurozone was estimated to be 6.1% in the year up to May, which was a decrease from April’s rate of 7.0%. At its meeting last week, the European Central Bank (ECB) suggested that ongoing price rises are projected to exert pressure on consumer spending for the foreseeable future, in spite of the fact that there have been signals of a slowdown. As a result, the Governing Council was compelled to come to an agreement to raise each of the three key interest rates by 25 basis points.

Meanwhile, after more than a year of continuous rate rises, the US Federal Reserve last week declared a halt to rate increases, keeping rates at 5% to 5.25%, at least for now. The rate of inflation fell to 4% in May, the lowest level since April 2021.

Will the BoE follow expectations for a rise to 4.75% this week? We’ll take a look below at the factors that will no doubt influence the board’s decision.

UK Employment Remains Tight

In the three months leading up to April, the number of employed individuals in the UK increased by 250,000, exceeding market expectations of a 162,000 increase and the previous period’s increase of 188,000. It was the greatest boost to employment since April 2022, as full-time, part-time and self-employed categories saw gains. The number of part-time employees, however, did remain below pre-pandemic levels.

Overriding market expectations and after a downwardly revised 6.1% gain in the three months to March, average weekly wages in the UK, including bonuses, increased by 6.5% year over year in the three months to April.

In addition, from February to April, the unemployment rate was 3.8%, up 0.1% from the previous quarter but below market expectations of 4%.

The Latest Confirmed Inflation Figures Were Above Forecasts

As a result of a significant decrease in the costs of electricity and gas, the annual rate of inflation in consumer prices in the UK dropped to 8.7% in April, the lowest level since March 2022. However, the rate was far higher than the market’s forecast of 8.2% and remained significantly higher than the Bank of England’s objective of 2.0%.

Also In April, the core inflation rate rose to 6.8%, the highest level since the early 1990’s. This was up from the prior month’s reading of 6.2% and beyond market expectations.

The BoE predicted back in May that inflation would drop to 5.1% in Q4 2023 from its previous forecast of 3.9% made in February, and it still hopes to reach the 2% goal by the end of 2024.

The central bank also suggested that there were three key causes that should account for the near-term reduction in inflation, including the beginning of a domestic energy price decline, the removal of significant price increases from the yearly comparison, and a broader decline in input cost pressures.

When the latest data is released the day prior to the Bank of England’s monetary policy meeting on Wednesday at 6:00 AM GMT, expectations are that the rate will have only slightly dropped to 8.5% year over year, while core inflation is forecast to stay at 6.8%.

Retail Sector Still Strong and GDP Resilient

April also saw a 0.5% increase in retail sales volumes in the UK compared to the previous month, somewhat reversing a 1.2% fall in March and above market estimates of a 0.3% increase.

GDP statistics released on Wednesday by the Office of National Statistics indicated slow growth rather than a recession, despite declines in manufacturing and construction.

Following a 0.3% monthly decline in March, the British economy grew 0.2% in April. This was mainly driven by increases in wholesale and retail trade (1%), auto repair (3.9%), and ICT (1.3%), the services sector increased 0.3% in April after falling 0.5% in March.

Thursday’s Monetary Policy Meeting

Following market predictions last month, the MPC voted by a majority 7-2 to increase the bank rate by 25 basis points to 4.5%, making it the 12th consecutive rate hike. The cost of borrowing has reached new highs not seen since 2008 as the central bank fights inflation which the statistics show is quickly becoming entrenched.

When the latest result is delivered at 11:00 AM GMT, economists anticipate a rate increase of 25 basis points this month, and despite the adverse inflation surprise, the markets only see a 15% possibility of a half-point increase.

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