Understanding the latest Bank of England’s changes and policy update

The third quarter of the year has seen the Bank of England step up the hawkish rhetoric, becoming more vocal than expected about rising inflation and second round effects than they are a slowing economy or higher unemployment. In August, the Monetary Policy Committee reduced bank rate from 4.25% to 4.00%, which was followed by a hold in September as expected, but its looks like the quarterly autopilot reductions are coming to an end. 

The spring and early summer was dominated by concerns around global trade and recession risks, whilst in the UK the pace which the labour market was loosening was getting acute focus. The minutes from the MPC’s latest meeting made notably less reference to these dovish factors that may otherwise require lower interest rates. This has been helped especially by recent data revisions to PAYE data that shows employment has not fallen at the pace first feared in the spring. 

Instead, their latest comments had much more focus on headline CPI inflation, services and food inflation components, and wage growth. Our fear is that these factors may see limited reprieve in the coming months, with the Bank of England’s own forecasts suggesting headline and food inflation is set to rise to 4% and 5.5% respectively, and the disinflation in services and wage inflation will be limited. We see some upside risk to these projections. 

The MPC are also notably concerned about where these current data points are right now than their longer-term forecast, as they are worried that higher inflation now will lead to higher inflation expectations in the future. The central bank targets CPI inflation at 2% and that job gets a lot harder if the average person doesn’t believe that is feasible. 

As such, the Bank of England face challenging optics to deliver another cut later before year end, given the potential limited progress that may be seen in the inflationary factors that they are currently focusing on. 

Bank of England Governor Bailey recently said: “Although we’ve taken a further step, and although I think that the path will continue to be downwards, gradually over time, because policy is still restrictive…. there is now considerably more doubt about exactly when and how quickly we can make those further steps. That’s the message I wanted to get across.”

And financial markets have listened. After the May meeting, investors expected the quarterly reductions to continue in August and November. Now, financial markets place just a 20% probability another cut in 2025. It appears increasingly likely that dovish downside surprises, such as lower inflation or a weaker labour market, may be required in the coming months for another cut to be delivered this year. 

A lot can change over the final quarter of the year. Incoming data sheds new light; question marks over the performance of the global economy; and ultimately the Bank of England may shift their emphasis towards different factors as the outlook develops. But now monetary policy will likely take the back seat over the rest of the year, with speculation about the Autumn Budget set to dominate the headlines.