The Bank of England holds interest rates but gives a pessimistic signal about cuts

Headline inflation fell more than expected to 3.4% annually in February, reaching its lowest level since September 2021, data showed on Wednesday.

The central bank expects the CPI to return to its 2% target in the second quarter, as the maximum household energy prices were lowered again in April.

“Headline CPI inflation continued to decline relatively sharply due in part to base and external effects of energy and commodity prices,” the MPC said in its report.

“The restrictive stance of monetary policy is impacting activity in the real economy, leading to a more flexible labor market and impacting inflationary pressures. However, key indicators of persistent inflation remain high.”

The Monetary Policy Committee stressed that monetary policy “will need to remain tight for a period sufficient to return inflation to the 2% target sustainably over the medium term.”

It also said it would continue to “monitor indicators of persistent inflationary pressures and the resilience of the economy as a whole,” including labor market conditions, wage growth and services inflation.

Bank Governor Andrew Bailey said in a statement that the bank “has not yet reached the point where we can lower interest rates, but things are moving in the right direction,” according to Reuters.

The UK economy slid into a technical recession in the last quarter of 2023 and has endured two years of stagnation, meaning the central bank is juggling a risky balancing act between sustainably guiding inflation to 2% and avoiding pushing the economy into prolonged deflation.

Major central banks around the world are trying to decide when to start unwinding monetary policy after two years of rapid tightening, in an attempt to tame rising global inflation.

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The US Federal Reserve on Wednesday held interest rates steady and stuck to its forecast for three rate cuts this year, as Chairman Jerome Powell sought confirmation that inflation is returning to the 2% target despite a recent spate of hotter-than-expected readings.

“Cautious shift”

Sterling fell, and UK bonds rose after the announcement, suggesting the market is interpreting the decision as a dovish pivot, with two of the most hawkish MPC members – Katherine Mann and Jonathan Haskell – dropping calls for a further rise.

Suren Thero, director of economics at ICAEW, said: “While interest rates were expected to remain unchanged again, the split in the more pessimistic votes and the minutes of the meeting suggest that rate setters are opening the door to a rate cut later this year.” .

“Although this rate hike cycle is firmly in the rearview mirror, the long delay between policy tightening and its impact on the broader economy means that the huge losses from 14 rate hikes have not yet fully crystallized.”

Theroux accused the bank of being “overly cautious” about potential interest rate cuts, given the slowing rate of inflation and the economic recession. He noted that keeping the policy “too tight for too long” risks prolonging the country's economic struggles.

PwC chief economist Barrett Kopelian noted that the MPC would likely want to see more concrete evidence that inflationary pressures are abating on the three fronts of labor market tightness, wage growth and services inflation, before acting.

“There is significant evidence from surveys and economic data as well as my own conversations with business leaders that the labor market is slowing, but what is unique about the current economic cycle are the uncharacteristically high levels of relative economic inactivity and skills mismatch,” Kopelian said. .

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“Both of these factors distort the required adjustment on the supply side of the labor market, making the normalization of wage growth rates more volatile and uncertain. As a result, the Bank is in a wait-and-see mode.”

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