There is a pretty firm consensus that the BOE will hike by another 75bps. But, given recent events in the markets, many analysts are hedging their bets a bit. Particularly when it comes to the vote, which in many cases has more of an impact on the markets than result. If there is a pretty solid expectation of what the BOE will do, then it gets priced in by the market ahead of time.
The BOE is in a bit of a tight spot, which makes figuring out exactly what they’ll do a little harder. The last month of unexpected events from the government put a strain on the markets, and they haven’t fully returned to normal. The confirmation of Jeremy Hunt as Chancellor, and the election of Sunak as PM likely helps the board members feel more comfortable. Both politicians are technocrats, and generally have a view of the economy that is shared by the City and the BOE.
It’s not smooth sailing, though
The mini-budget incident back in September exposed a weakness not just in the UK financial system, but in financial markets around the world: a general lack of liquidity. Even with interest rates rising, investors are loath to put their money into long-term commitments due to economic uncertainty. Inflation is still well above the interest rate, meaning that investing in bonds is a losing investment.
Enter the BOE’s first attempt at quantitative tightening since the start of the subprime crisis a decade and a half ago. Unlike the Fed, the BOE has never gotten around to selling its holdings. Just a couple of weeks ago, it had to intervene by buying longer-term debt to stabilize the market. Now the BOE is offering a little over three-quarters of a billion in short-term gilts in a test of the market’s liquidity in the policy-relevant shorter end of the curve.
So far so good
The amount offered was less than what the UK Treasury normally offers, and the operation went off without a hitch, suggesting that there is still enough liquidity in the markets to support policy actions. But with the government facing a £40B whole in the budget, it might have to tap the markets for more funds along with the BOE bringing an additional £6B to the markets in the next couple of months. Traders are likely to be keenly watching for any signs of market illiquidity during the coming auctions.
The other issue is the rate trajectory. Although many economists expect another aggressive hike at this meeting, there is a growing consensus that the BOE is running out of ammunition. That means a slower hiking pace going forward. And that might be gauged by not only counting the vote, but who supports which options.
Counting the votes
The last meeting had a three-way split, with 25, 50 and 75bps all getting votes. It’s likely the vote will also be split this time around, and if there are more votes for the smaller options, it could lead investors to think that the next rate hike in December will be smaller than currently anticipated.
After the Fed’s action, that could support some further weakness in the pound. On the other hand, it would likely help improve the liquidity conditions, making the run off of the balance sheet less of a worry.
