Bank officials talk like hawks but elusively fly like the doves

The decision prompted comparisons between current BoE Governor Andrew Bailey and his predecessor Mark Carney – the so-called “unreliable boyfriend” for flip-flopping on public guidance – reflecting the extent to which the markets were wrong-footed. Pointing to several hawkish speeches by the Governor and his MPC colleagues, some warned that the BoE’s image could be tarnished by this episode.

In isolation, the decision to kick the interest rate can a bit further down the road wasn’t particularly shocking. Analysts had predicted the outcome would be on a knife's edge even though several high street lenders had already jumped the gun with a pre-emptive increase in the cost of borrowing passed on to their customers.

In any event, the putative increase in rates to 0.25% would have been largely symbolic. With an estimated 95% of new mortgages and 80% of all outstanding mortgages on fixed interest rate repayments, the immediate impact on consumers would have been minimal.

Critics say Bank of England Governor Andrew Bailey risks inheriting the 'unreliable boyfriend' moniker of his predecessor Mark Carney

Far more arresting was the extent to which the MPC dialled down on rate hike expectations from now through to the end of next year. While continuing to concede that “some modest tightening of monetary policy” will likely be necessary to eventually bring inflation back within the 2% target that is the MPC’s remit, the committee made clear that any assumptions about aggressive interest rate hikes are misplaced.

“Near-term uncertainties remain, especially around the outlook for the labour market, and the extent to which domestic cost and price pressures persist into the medium term,” the MPC said in a statement.

The prevailing view now is that unless there is evidence of a significant increase in unemployment as a result of the furlough scheme ending in September, an initial rate hike is likely at next month’s MPC meeting.

Thomas Pugh, economist at RSM UK, said an increase in December looks “nailed on”. But whereas financial markets were anticipating rates reaching 1% or more by the end of next year, RSM now believes the cost of borrowing will be half of that.

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“Indeed, policymakers, market participants and firm managers should anticipate that global central bankers will talk like hawks to influence the yield curves and inflation expectations, all while acting like doves and maintain accommodative policies,” Mr Pugh said. “Over the next year, watch what central banks do as much as what they say.”

Along with the Governor, new MPC chief economist Huw Pill was also cited for reinforcing expectations on higher interest rates. In the end both voted to maintain the status quo, with Deputy Governor Dave Ramsden and Michael Saunders the only two in favour of a 15 basis point increase.

“It seems in recent weeks that the Governor and the chief economist were going out of their way to make sure that there was to be no surprise if interest rates rose,” said Oliver Blackburn, portfolio manager at Janus Henderson.

“Former Governor, Mark Carney, was labelled the ‘unreliable boyfriend’ over his confusing communication, and there is a risk that the new Governor inherits this moniker following his public statements ahead of today’s announcement. After taking time to seemingly warn markets about potential lift off, it may be particularly perplexing for many that the Bank then chose to push against markets that had priced in a steeper path for interest rates.”

Communication failures aside, the Bank’s revised projections for November point to weaker economic growth and illustrate the conflicting issues the MPC must grapple with.

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Noting the widespread impact of labour and supply chain disruptions that have hampered industries from farming and retail to the construction and electronics sectors, the committee cut its forecast for GDP growth to around 1.5% for the third quarter of this year and 1% in the fourth quarter, about half of what it envisioned in August. It also pushed back its target date for when UK GDP will reach its pre-pandemic peak to the first quarter of next year, three months later than it predicted in August.

With supply chain disruptions expected to persist to the end of next year and energy prices to rise further, inflation is now projected to hit a peak of 5% in April – the highest inflation forecast for a decade.

The majority of MPC members are betting that falls in real household incomes – driven by rising energy costs, higher shop prices and increased taxes – will lead to a “moderation in demand”. Assuming that energy prices will start falling back from next spring, and that supply chain disruptions ease, the majority view of the MPC is that consumer price increases will be a one-off rather than leading to “persistently higher inflation rates”.

There are several variables in these assumptions – on employment, economic growth, inflation, and the avoidance of future lockdowns – that could upend this calculations. Little wonder, then, that the MPC sees “value in waiting for more information” before it moves on interest rates.

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But even in the best-case scenario, the committee does not expect inflation to fall below 3% until the spring of 2023. That is an uncomfortably long amount of time with prices rising well above the 2% target and will erode the buying power of savings, eat into retirement incomes, and in the absence of commensurate pay rises cut workers’ real earnings.

“A delay in raising rates is a signal of the conundrum facing rate-setters,” said Ed Monk, associate director at Fidelity International. “They will be uncomfortable that inflation is running so far above target, but also understand they have limited options to bring price rises down.

“Maintaining rates at their current emergency low level underlines that the Bank still views growth as being fragile.”

Clearly, the sheer extent of the economic chaos caused by the pandemic and further exacerbated by Brexit has created unprecedented caution within the MPC. Whether the picture is substantially clearer come the committee’s next meeting on December 16 remains to be seen, but even if interest rates remain subdued, household budgets are getting chipped away from multiple directions.