The Fed’s Hawkish Hold

At 12 noon this afternoon, attention will turn to Threadneedle Street for the Bank of England’s latest interest rate decision and monetary policy summary. Given yesterday’s softer-than-expected inflation print (which saw headline CPI slow from 6.8% to 6.7% against expectations of 7.1%), markets downwardly revised their conviction of the BoE raising rates 25bps. For instance, at the start of the week, money markets were pricing in around an 80% probability of a hike, though following the miss on inflation, this has been pushed lower with around 50% now being priced in. Hence, while inflation remains well above the BoE’s target, convictions that Threadneedle Street may hold have continued to gain traction, not least because of some of the dovish undertones signalled at the last meeting.

During the BoE’s Policy Meeting on 3rd August, the BoE met expectations by raising rates 25bps to bring the benchmark policy rate to 5.25%. this marked the 14th consecutive rate hike and brings borrowing rates to fresh 2008 highs. Despite earlier projections pricing in a higher prospect of a 50bps hike, the BoE were ultimately more dovish with one policy member even voting to keep rates unchanged. Here, the Bank’s monetary policy report cited their view that “the risks of overtightening had continued to build, increasing the likelihood of output losses and volatility that would require sharper reversals of policy”. Moreover, while Bailey suggested that further tightening would likely be needed, there were some dovish undertones to his press conference, evidenced when he stated that there was “more than one path” to cool inflation, insinuating that dampened demand, low wage growth or tighter fiscal conditions could naturally reduce inflationary pressures. If last month’s wage growth figures were anything to go by however, it is apparent that inflationary pressures from the labour market will continue to cause a headache for policymakers.

Hence, given that brining inflation down to the 2% target continues to remain the Bank’s primary goal, notwithstanding yesterday’s miss on inflation, markets seemingly hold the view that policy makers will still conduct another 25bps hike this year. With markets pricing in a 50/50 split between whether the BoE will pause or hike today, all eyes are on Threadneedle Street.

The latest ONS labour market data released last week indicated that there are some 2.6m people in the UK who are economically active due to long-term sickness. This is a marked increase from the pre-pandemic days when figures were not much over 2.1m and represents a major challenge for households and The Treasury alike. Indeed, with long-term sickness levels now at record highs, according to the ONS this has added some 0.6% of GDP to the governments annual borrowing given the increase in welfare spending and the tax receipts forgone. Commenting on the matter, the Institute for Public Policy Research (IPPR) stated that the impact of the trend represents a “serious fiscal threat”.