Markets and economists are unanimous in expecting that the BOE will hold rates unchanged at Thursday’s meeting. But that doesn’t mean cable will sail through the event unscathed. Traders will be looking for clues on when the next rate cut will occur, and this could cause the pound to fluctuate or even establish a new trend.
Leading up to the decision, economic data were in line with expectations, allowing expectations to deepen. What could move markets is the impact of the decision and the timing of the coming decisions on the issue that has been weakening the pound lately. That is, Britain’s precarious financial situation has pushed long-term gilts higher amid worries over what will be in the Autumn Budget.
The Data Ticks the Boxes
In a somewhat unusual setup, the two main data points that central banks focus on when deciding interest rates were released just ahead of the BOE’s rate decision. On Wednesday, August CPI was reported at 3.8%, unchanged from the month before, as expected. This is well above the 2.0% target set by the BOE. The core rate decreased slightly to 3.6% from 3.8%, also as expected.
On Tuesday, it was reported that the UK added slightly more jobs in August than anticipated at 232K compared to the 220K forecast. However, the unemployment rate stayed the same at 4.7%, an indication that the labour market hasn’t loosened substantially since the last meeting. In summary, with all indicators pointing in the same direction, the outlook for the BOE remains relatively stable for no more rate cuts.
The Impact on the Budget
Companies blamed rising prices on increased taxes, as they passed the cost of the National Insurance hike on to consumers. This comes as a complication for Chancellor Rachel Reeves, who is facing a hole in the government’s funding. The natural response to a deficit is to generate more revenue, which can be achieved through increased taxation. There are persistent rumours that Reeves will have to go back on her promise not to raise taxes. Recent reports that she would emphasise that the Tories are to blame for the current fiscal difficulties have left many speculating that she will have to announce measures that the market won’t like.
If the UK economy were to pick up, the government would collect more revenue without having to raise taxes. Lower interest rates would support economic growth, while it’s widely understood that the current high rates set by the BOE are restricting the economy. That is, after all, how the central bank attempts to reduce inflation. If the BOE is set to keep rates on hold for an extended period, this could slow growth in the UK. That could be further complicated if new taxes are introduced, raising inflation and keeping the BOE from supporting the economy by easing.
What to Look Out For
The BOE expects inflation to rise in the near term as high as 4.0% before going down next year. This means it won’t be able to lower rates for at least the next four months. Markets will be looking for signs that the BOE will be on hold for the rest of the year to continue providing meagre support for the pound.
On the other hand, if there are signs that the BOE might be willing to cut rates sooner, then the pound could weaken. That might be from Governor Andrew Bailey emphasizing the labour market as opposed to inflation, or a large number of MPC members voting for a rate cut.