EconoFACTS

November 03, 2022 | 10:56

A Bold BoE

Economist

Jennifer Lee

Senior Economist and Managing Director
Economics

(Read more)

Jennifer Lee

Senior Economist and Managing Director
Economics

(Read more)

A little late sending this out ....

The Bank of England actually moved boldly today, raising its Bank rate 75 bps—the biggest move since October 1989 (or when Black Box sang "Ride on Time" on Top of the Pops)—to 3.00% (highest since November 2008). Yes, the hawks are finally in the majority with seven (7) opting for 75 bps. The breakdown of the vote was surprising on two fronts: 1) We didn't expect four policymakers to join the three hawks, and 2) We didn't expect the dovish Silvana Tenreyo to shift from 50 bps to 25 (she felt that the economy was already in recession). Given this dissent, this is not a truly hawkish hike.

Yes, the Bank was "flying blind" given that it does not know all the details to the November 17th fiscal update. However, the MPC is working under a number of assumptions, including that the Energy Price Guarantee will limit further increases in the energy portion of the CPI and that it will support incomes. And, some other measures have already been announced, including reversing/canceling previously planned increases in national Insurance and the Health and Social Care Levy. All of these are, on net, positives for the economy but also inflationary as they will boost demand. Regardless, compared to August, the BoE revised down its GDP growth estimates. Given this "very challenging outlook", the MPC still expects Britain to be "in recession for a prolonged period" and for inflation to stay elevated "at over 10% in the near term".

So, there is still a "prolonged recession" (spilling over into the first half of 2024) and yet, they raised rates 75 bps. Why? "The MPC’s remit was clear that the inflation target applied at all times." It still expects inflation to peak at "around 11%" in Q4 this year, which is similar to September's language ("just under") but down from the August estimate of "just over 13%".

This is not the last we've seen from the BoE. It may not pull another aggressive move like this, though, if inflation persists, the Committee warned that it would respond "forcefully, as necessary". And note that they described today's hike as "forceful". So keep an eye out for that adverb. However, it looks like there is a lower terminal rate assumption. Besides, one would imagine that there is a limit to how much hiking it could do without damaging the economy even further. Meantime, our calls remain the same: We look for another 50 bps in December, then 25 bps in February, to 3.75%, with all moves being dependent on the data, and the fiscal update. Obviously.

Currency impact? According to our Stephen Gallo (European Head of FX Strategy) ... The GBPUSD fell after the BoE’s ‘dovish hike’. But the damage done to the GBP may have been mitigated by the fact that the Bank signalled a less severe tightening of monetary policy than what had been priced in by the financial markets prior to the announcement. That said, the renewed strength in the USD post-Fed has compounded the weakness in the GBP. We are cautiously optimistic that the 1.10 level in GBPUSD will hold, but a more aggressive-than-expected Fed is a downside risk to that call.