With the growth rate being above expectations in the final quarter of 2017, the possibility of a rise in the United Kingdom (UK) base rate could happen earlier than foreseen. Yet, speaking on a panel at the World Economic Forum in Davos, the governor of the Bank of England (BoE), Mark Carney, pointed out that BoE rates are heavily reliant on the outcome of the Brexit negotiations. He also pointed to the fact that the UK’s economic performance forecast was previously revised down by the BoE, amid the uncertainty linked to leaving the European Union (EU).
Last November, after an increase in the UK’s interest rates from a record low of 0.25% to 0.5%, speculation about the BoE’s next move has already started. This was the first rise in more than a decade, prompted by the inability of wages to keep up with inflation. During the announcement, Mark Carney insinuated the possibility of two hikes in the next three years.
Generally, increases in interest rates, known as tightening policies, are adopted by central banks when economies are growing rapidly, slowing down this growth in order to avoid it from bursting in dramatic fashion. Though the main objective of the Monetary Policy Committee’s (MPC) decision, announced last November, was to maintain price stability in the UK. In this case, the BoE essentially used interest rates as its tool to control inflation at a target rate of 2%.
Unfortunately, this perception did not hold after the inflation rate – a few weeks following the announcement – breached the target to climb to a peak (since March 2012) of 3.1%. These inflationary pressures were predominantly driven by a fall in the value of the pound sterling after the EU referendum in June 2016. The weaker pound resulted in higher costs for imported food, fuel and other goods, that in turn made the economy worse off. This inflation figure will now push Mark Carney to justify the deviation of more than 1% from the targeted inflation rate to the Chancellor of the Exchequer, Philip Hammond. While many joked about this open letter on social media, the UK has to wait until February to find out the reasons that caused this jump in the rate of inflation, and the strategy that will be implemented to bring inflation back to the targeted range.
With Brexit-led uncertainties surrounding the economic position of the UK, lowering the interest rate will help to boost consumption in the economy and keep it strong. However, the recent appreciation of the sterling against the dollar over the past few weeks, which hit above $1.42, boosted optimism and this may lead the BoE to continue its tightening policy.
It should be noted that the pound extended its recent gains after the employment rate was at its highest level. Improving global economic conditions and strong exports, due to the fall in the pound after Brexit, also pioneered Britain’s GDP growth to defy forecasts and to prove its economy to be resilient. If the overall picture remains bright in the upcoming weeks, rate hikes are not far away.
Source: Market Mogul