Following on from the Warsh Review, Thursday’s meeting will mark the first meeting under the new meeting system: the outcome of the MPC meeting, the minutes and the Inflation Report will all be published at the same time.
The Bank of England is set to keep its key rate unchanged at 0.5%. However, recent MPC Member speeches have shown a gradual shift towards a more hawkish stance. One or two members may even decide to vote in favour of a rate increase this month. Moreover, in a recent speech, Mark Carney signalled that the first rate increase will come at around the turn of the year. As a result, while a rate hike before the end of the year cannot be ruled out, we believe the majority of the MPC will continue to err on the side of caution until early next year.
Inflation Report to provide more colour on the timing of the first rate hike
The Inflation Report will give more colour on the MPC’s next move, with an update on growth, unemployment rate and inflation projections. Only minor changes are expected to the projections, but the Inflation Report and the Minutes will provide a crucial indication of the timing of the first rate hike. Indeed, in his Lincoln speech, the Bank of England Governor said that: “In my view, the decision as to when to start such a process of adjustment will likely come into sharper relief around the turn of this year.”
Rising domestic inflationary pressures…
Even though inflation fell back to zero in June, underlying domestic inflation pressures are rising. Firstly, in its latest Inflation Report, the BoE estimated the output gap at 0.5% of GDP and expected it to close in a year. Secondly, there have been signs recently that earnings growth is gathering steam. However, the improvement in productivity seen over the last quarters, if sustained, could limit the impact of higher wage growth on unit labour costs and hence on inflation.
But external risks remain
However, external factors will also need to be taken into consideration. The July MPC minutes noted that “for a number of members, the balance of risks to medium-term inflation relative to the 2% target was becoming more skewed to the upside” and that “for these members, Greece played a major role in their decision.” The developments in China have also been quoted as one major uncertainty by Governor Mark Carney. On top of that, further sterling strength would have a direct downwards impact on goods prices.
Overall, a first rate hike before the end of the year cannot be ruled out. However, given in particular the still elevated external risks, we continue to believe the BoE will wait until early next year before pulling the trigger.
(SOCIETE GENERALE)
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