Bank of England could begin cutting rates even before it reaches 2% inflation target

The Bank of England’s governor, Mark Carney, stated that the bank might start lowering interest rates before inflation hits its 2 percent goal.He cited “encouraging” signs of a easing of price pressures.

Andrew Bailey, speaking to the Treasury Select Committee, said that inflation in the UK has decreased quickly and that the technical recession the economy entered is likely to be minor.
Bailey stated that it was not necessary to wait for the inflation rate to return to its target level before reducing interest rates. I must be clear, it’s not needed.

The comments were similar to those made by Huw Pill, chief economist at the BoE, earlier in the month. They came after the Monetary Policy Committee of the bank held the critical rate at 5,25 percent at its latest meeting.

The central banking did, however, signal that they were ready to lower rates for the very first time since Covid-19.

Bailey refused to say when the first rate cut could be expected, or what their depth would be. He said that market expectations were reasonable that the BoE would cut rates this year.

Bailey informed the MPs that BoE expects headline inflation to temporarily return to the target in spring, before increasing again in the second half of the year. He said that the bank was concerned about ensuring that inflation returns sustainably to its target. “We look beyond the temporary period where we believe that inflation will be at target. We want it to stay down.

Following Bailey’s remarks, UK government bonds led the global rally. Interest rate-sensitive 2-year gilt yields dropped 0.07 percentage points, to 4.55 percent. Benchmark 10-year yields also fell 0.06 points, to 4.05 percent.

The swaps market traders have moved to price three cuts at least by the end the year. This is up from the two or three cuts they had priced before the hearing.

data released by the Office for National Statistics earlier this month showed that the UK entered a technical recession towards the end of the last year. The gross domestic product (GDP) fell by 0.3 percent in the last three months of 2023. This follows a decline of 0.1 percent in the third quarter.

Bailey downplayed the significance of Tuesday’s figures, stating that the UK economy showed “distinct signs” of an improvement.

The BoE is looking for signs that the inflation rate is on track to reach its target of 2 percent. It is focusing on the growth in services prices, wages and the state of the labour markets.

Bailey expressed optimism about recent developments, but said that he hoped for “more sustained improvements” on these three issues. He said, “I think we have seen encouraging signs in them.”

Ben Broadbent, deputy governor of the Bank of England, stated that wage and service inflation were likely still increasing at a rate close to twice the level set by the 2% target.
He added that the tightening labour market played a smaller role in wage increases. He said that he felt “reasonably confident”, as wage growth will slow down, once consumer prices stabilize and businesses become more cautious about passing on higher costs to consumers.

Broadbent defended BoE’s performance and stated that despite criticisms, the UK is emerging from an inflationary spike faster now than it did in the 1970s.
He argued that the combined shock from the pandemic, and the war in Ukraine, was about twice as large as the energy prices shock of 1970s. Yet two years later, inflation was still in double digits.

He said, “This is not the same thing.” “The reason for this is” . . In the end, it is the monetary policies and their credibility that determine the rate of inflation.”