With the Bank of England declining to raise interest rates in May, the question now is when will it take action?
Toward the start of the year, May had been tipped by market watchers and analysts as the month in which the Bank of England (BoE) would start hiking the base rate. However, those expectations started to disappear in April, with GDP growth figures disappointing and inflation dropping to come in closer to target.
But despite choosing not to raise rates this time, the BoE remains positive on the UK economy and expects to continue raising rates this year.
It attributes the first quarter of 2018’s slowdown in growth to adverse weather, expecting GDP growth to rise to 0.4 per cent in Q2, with year-on-year growth coming in at 1.75 per cent. Likewise, it forecasts inflation to come in at 2.4 per cent in Q2 and has lowered its forecast for inflation in two years’ time to 2 per cent, from 2.2 per cent.
With this in mind, the BoE is still committed to ‘ongoing tightening of monetary policy’ – just not starting in May.
So, if not now, when?
According to Dan Hanson of Bloomberg Economics, we should expect a rise in August, assuming growth rates start to improve. ‘If growth rebounds as we expect in Q2, the next increase in interest rates is likely to come in August,’ Hanson notes.
Pantheon Macroeconomics also believes an August rate rise is a strong possibility, albeit far from a certainty. ‘On balance, we still think the odds of an August rate hike slightly exceed 50 per cent,’ comments the economic research consultancy.
Another factor supporting a rate rise is the Bank’s desire to gain the space to cut rates again if it needs to, in the face of any unforeseen economic shocks. To regain this option, it will need to raise rates further, and the timeframe in which to do so is narrowing.
According to Pantheon Macroeconomics, ‘the window of opportunity for raising rates could disappear after August, as May will have to decide in Q4 whether to leave the EU’s customs union. Whatever decision she makes will anger one wing of the Tory party, potentially triggering a leadership challenge or a general election.’
Raising rates in such a political environment may not be possible. Therefore, the BoE may feel compelled to take action, raising rates before political instability surfaces.
A rise, however, is far from certain. Unexpectedly bad economic data could easily force the bank to delay rates. ‘It would not take much more sub-par activity data for the Monetary Policy Committee to wait a little longer.’ Pantheon Macroeconomics is therefore only ‘pencilling in an August hike.’
Source: Money Observer