- The Monetary Policy Committee (MPC) chose not to raise interest rates in its latest meeting. Two members did vote for a rise, and the minority in favour of curtailing quantitative easing (QE) immediately expanded from two to three. But with GDP growth in the near term looking more subdued, and the outlook for the labour market and the persistence of inflation still uncertain, a clear majority on the MPC judged a ‘wait-and-see’ approach remained appropriate.
- However, the Committee was explicit that, provided its latest economic forecasts pan out, it will be necessary to raise interest rates in the next few months. The EY ITEM Club thinks February 2022 will be the likely date for a rate rise. At that point, the (hopefully modest) consequences of the end of the furlough scheme on employment will be clearer.
- That said, the MPC lent against what markets had expected to be a strong move towards policy tightening over the next year. The EY ITEM Club doubts 2022 will see more than two rises in the Bank Rate and thinks the policy rate will end next year at 0.5%, still very low by historical standards.
Martin Beck, senior economic advisor to the EY ITEM Club, says:
“The outcome of November’s MPC meeting had appeared to be on a knife-edge, with the Committee’s hawks, doves, and those in between, seemingly constituting broadly similar numbers. In practice, while two of the nine members did vote for an immediate rise in the Bank Rate from 0.1% to 0.25%, there was a comfortable majority in favour of keeping policy on hold. Three members voted to end QE immediately, up from two in September’s meeting.
“A downgrade to the MPC’s near-term view of the economy supported the decision to leave policy settings unchanged. Supply chain disruption and a more modest-than-expected recovery in consumer spending means the MPC now expects GDP to grow by around 1.5% in the third quarter of 2021 and by 1% in the fourth quarter – around half of the rates envisaged in the last set of forecasts in August. As a result, GDP is expected to remain below its pre-pandemic level until the first quarter of 2022, a quarter later than previously expected. And forecast GDP growth next year was cut from 6% to 5%.
“However, the MPC’s new economic forecasts were far from entirely dovish. Inflation is expected to peak at close to 5% next April, up from 4% previously. If this materialises, it would be one of the highest inflation readings since the BoE was given independence in 1997. ‘Transitory’ inflationary pressures are expected to be both larger and longer-lasting than previously thought.
“The MPC’s decision to not raise the rate, for now, means that households with mortgages and other debt won’t have to face another winter cost of living pressure on top of those imposed by rising inflation, more expensive fuel and energy, and benefits changes. But the relief is likely to be temporary. The Committee’s language implied that higher borrowing costs are coming soon. Subject to the economy performing in line with its forecasts, today’s policy statement said that ‘it will be necessary over coming months to increase Bank Rate in order to return CPI inflation sustainably to the 2% target.’
“‘Coming months’ is a vague formulation. While a rate rise in the MPC’s next meeting in December is a possibility, the EY ITEM Club thinks February 2022 presents a more likely date for rate increase. At that point, data on the employment impact of the furlough scheme’s end will be available. In the EY ITEM Club’s view, this will show only a modest impact on the jobs market. And February will also see the MPC’s next set of forecasts published, which will allow the Committee to give a full account of its decision if it does tighten policy.
“As to where interest rates go thereafter, based on the degree of policy tightening priced into markets before today’s decision, the MPC expects inflation to dip below the 2% target by 2024. The implicit message is that policymakers don’t see a need to act as aggressively as investors have expected, which would have seen the Bank Rate reaching 1% by the end of next year. Following a rise in the policy rate to 0.25% in February, the EY ITEM Club thinks next year is unlikely to deliver more than one further increase, with the Bank Rate ending 2022 at 0.5%.”