BoE Hikes 25bps with Higher Inflation Forecast; Pause or Hike to Depend on Data

• The Bank of England surprised practically no one today by choosing to lift its policy rate by 25bps to 4.50% in a 7–2 vote split.

• Base on an initial read of the statement and the updated projections, we would be inclined to project another 25bps increase at the June 22 meeting. 

• However, there are dovish elements in today’s set of communications that make us unwilling to change our projection for no more hikes.

• What may be the clearest evidence of aiming for a pause is the emphasis that Bailey has placed on the condition for additional hikes (“evidence of more persistent pressures”).

• Above all, our BoE call will depend on incoming data. The release of Q1 GDP, and April payrolls and wages next week, and above all CPI/RPI figures on the 24th will be key.

The Bank of England surprised practically no one today by choosing to lift its policy rate by 25bps to 4.50%. Markets went into the meeting with 25bps priced in and all but one of the 48 economists surveyed by Bloomberg had projected a quarter-point move (including Scotiabank).

The vote split of 7 voting for a hike and 2 voting for a pause (again Dhingra and Tenreyro) was also as expected, and so were the higher GDP growth and lower unemployment rate forecasts—in line with firmer macroeconomic data since the February forecast round.

The higher inflation forecast was not fully unexpected, but the magnitude of this change was certainly a surprise. At 5.12%, the end-2023 forecast for CPI was lifted by 1.2ppts from the 3.92% seen in the February Monetary Policy Report; end-2024 was also revised to 2.28% from 1.42%.

It is clear that the new inflation outlook prompted a rate hike today, as the BoE had flagged at its March decision that if “there were to be evidence of more persistent [inflationary] pressures, then further tightening in monetary policy would be required”. That condition has been met, so a 25bps increase was required, in line with guidance. This time around, Bailey (during his presser) and the MPR also placed a bit more emphasis on risks around the inflation outlook being “skewed significantly to the upside.” 

Base on an initial read of the statement and the updated projections, we would be inclined to project another 25bps increase at the June 22 meeting. Markets are on board with that call with 23/24bps in hikes priced in following the statement (a 4bps increase). Or, at least they were before US banking sector risks reared their head and took short-term interest rates lower across the globe; the weak-to-mixed US PPI/jobless claims data also added to this.

Choppy price action makes the market read of the BoE’s communications difficult. BoE June meeting contracts are now penciling in only 18bps in hikes and 2y UK yields are down 8–10bps on the day. The spread between 2yr UK and German debt yields is on net 3/4bps lower than before the policy decision, reversing the 7bps widening in the hour that followed. The GBPEUR is also now weaker on the day (0.2%), shortly after strengthening to its best levels of its rally since late-April.

Setting the global bid in rates markets and the USD aside, it seems that UK traders were perhaps also prepared for a more hawkish statement and press conference from Bailey, based on the relative performance of gilts and the GBP.

We don’t want to give too much credit to erratic market action the past few hours, but there are hawkish takeaways from the statement and MPR that supported the initial moves. A higher inflation forecast, no more recession projection (only one quarter of slightly negative growth), and leaving the door open to more increases support rate hike bets—though could this have already been fairly reflected by the one and a half hikes seen after today?

On the flipside, there are dovish elements in today’s BoE decision that make us unwilling to change our projection for no more hikes (which above all depends on incoming data). Bailey and the MPR highlighted that the revision “predominantly reflects higher expected food price inflation” while the services projection was left practically unchanged; higher goods prices also got a shout. The Bank also continues to expect a steep drop in headline inflation starting in April as the Q2-22 surge in energy prices falls out of the year-on-year comparison. Again, the BoE’s central forecast sees inflation drop below the 2% target in the last six quarters of the projection horizon (starting in 25-Q1 at 1.52%), in what is a message to markets that rate cuts are underpriced and the UK economy is not fit to handle a 3.50%+ Bank Rate for the next two and a half years.

What may be the clearest evidence that the BoE may not hike again is the emphasis that Bailey has placed on the conditionality of the phrase “if there were to be evidence of more persistent [inflationary] pressures, then further tightening in monetary policy would be required.” The Governor is not closing the door to hikes as the bank sticks to a data-dependent approach.

However, in the same way that in the March decision this sentence indicated that the BoE would pause today (based on the data and the outlook at the time, see our write-up here), it suggests today that if the economy evolves in line with the latest MPR forecasts then the BoE will not need to hike again. If that’s the case, then there would be no evidence of persistent inflationary pressures in excess of those present in their revised outlook. This forecast already shows a notable improvement in GDP projections and a large increase in inflation that would give the BoE a wide berth for upside risks in incoming data. Maybe more MPC members will join the two doves in calls for a pause at the next meeting, and Bailey noted that the discussion of overtightening is “a lively subject of debate” among policymakers.

In an interview with Bloomberg after the press conference, Bailey said that the BoE is nearing a point when they should be able to “rest in terms of the level of rates” and that he hopes the BoE is close to a pause, citing that today was the twelfth consecutive rate increase from the BoE, while sticking to the need to be data dependent. Overall, this reinforces the view that if data evolve as planned, the BoE may pause next month—or hike once more, at most.

The dissection of the statement, presser, and MPR suggests, to us, that a June pause is not a done deal, and we acknowledge that the odds of another 25bps hike have risen, particularly on the back of the new inflation projections. But there’s only so much speculating that can be done when, ultimately, it will be the data that determines the BoE’s next move. Over the remainder of the month, the release of Q1 GDP, and April payrolls and wages next week, and above all CPI/RPI figures on the 24th will determine our forecast for the June meeting and lock in, or fade, a full 25bps hike in markets. A lot may happen over the next six weeks to change our, and the market’s perception, above all a widespread banking crisis or a US default. Neither of these are in our baseline scenario, though headwinds to global growth and policy rate bets may be building.