Press release

11 May 2023 London, GB

The Bank of England raises rates again, and leaves door open for another increase – EY ITEM Club comments

After recent evidence of stickiness in underlying inflation and continued strength in pay growth, the Monetary Policy Committee’s (MPC) decision to raise Bank Rate to 4.5%, close to a 15-year high, didn’t come as a surprise. The language used by the MPC in its policy statement kept the door open to further rises, but the EY ITEM Club thinks the peak in the rate rise cycle has either happened, or is close.

Press contact
James White

Senior Executive, Media Relations, Ernst & Young LLP

Communications professional experienced in public relations, journalism and media relations. Aston Villa supporter. Passionate about sports and automotive. Former sports journalist.

Related topics Growth
  • After recent evidence of stickiness in underlying inflation and continued strength in pay growth, the Monetary Policy Committee’s (MPC) decision to raise Bank Rate to 4.5%, close to a 15-year high, didn’t come as a surprise. The language used by the MPC in its policy statement kept the door open to further rises, but the EY ITEM Club thinks the peak in the rate rise cycle has either happened, or is close.

  • The MPC stuck to a data-driven approach, saying it could tighten policy further if inflation continues to prove “persistent”. Meanwhile, the Bank of England has become much more upbeat about prospects for the economy and the strength of demand, relative to its last forecast, with previous expectations of a recession revised away. And it now thinks inflation will fall less rapidly.

  • However, predictions of a more measured fall in inflation are driven largely by expectations of higher food price inflation – not something under the control of monetary policy. The Bank still forecasts inflation to fall well below the 2% target in 2025, despite a stronger economy. Moreover, the risk management considerations used to justify past rate rises are easing. Most of the cumulative effect of the fastest tightening in monetary policy in over 30 years is still to come through, a point emphasised in the MPC’s latest policy statement.

  • The next couple of months should bring a significant decline in headline, core and services inflation, pushing down on inflation expectations and pay demands. Against that backdrop, the EY ITEM Club thinks the case for further rate increases will weaken in the MPC’s view, at the same time as the presentational challenges of pursuing further tightening grow. That said, the hawkish skew of today’s announcement suggests one more rate rise may be in the offing. And if the Bank of England’s expectation of greater stickiness in inflation proves true, the prospect of rate cuts may be delayed until well into 2024.

Martin Beck, chief economic advisor to the EY ITEM Club, says: “The Bank of England’s approach since late 2021 of consistently increasing interest rates continued this month. A 7-2 majority on the MPC voted to raise Bank Rate by 25bps to 4.5%, adding to the most significant tightening in monetary policy in over 30 years and lifting the policy rate to the highest since October 2008.

“In the view of the majority on the MPC, another rate rise was justified by an economy more resilient than expected, persistent strength in domestic price and wage setting, and a tight jobs market. The impact of the first factor was revealed in the biggest upgrade to growth forecasts in the MPC’s history. Thanks in part to further falls in wholesale energy prices, previous predictions of a prolonged recession have been revised away and the Bank of England now expects the economy to expand 0.25% this year and 0.75% in 2024, versus declines of 0.5% and 0.25% in its last forecast in February. That said, the Bank of England’s forecast for growth next year is still below the latest consensus of 0.9%.  

“With the latest rise in Bank Rate widely expected, the big uncertainty in advance of the MPC’s latest decision was the message the committee would send about the likelihood of yet more rate increases in the months ahead. On that score, the MPC kept the door open to more tightening if inflation proves “persistent”, retaining the data-driven approach it has set out in recent meetings. And there was no sign of push back against current market interest rate expectations, which, in advance of May’s meeting, saw Bank Rate peaking at 4.75%-5% later this year.

“The EY ITEM Club is warier about expecting further increases in Bank Rate. Granted, the Bank of England thinks inflation will fall less rapidly than in its last forecast, mainly due to an assumption of higher food price inflation, with the Consumer Price Index (CPI) measure predicted to be just above 5% at the end of this year. And the Bank of England still sees significant upside risks to the inflation outlook from “second round effects” of high inflation feeding into domestic prices and wages.

“But there's now a lot of monetary tightening in the system, and the impact on activity and prices comes with a lengthy lag. The Bank of England’s own estimate is that only a third of the impact of rising rates has yet been felt by households. And the Bank’s central forecast shows inflation falling well below the 2% target during 2025. Since the Bank of England targets headline inflation, it will be increasingly difficult to present a justification for more rate rises while also forecasting a substantial undershoot of the inflation target. 

“What’s more, the next couple of months are likely to bring a significant decline in headline, core and services inflation, as lower energy prices push down headline inflation and, indirectly, weigh on underlying inflationary pressure. This should further depress inflation expectations among the public, feeding through into lower wage demands, constraining businesses’ ability and willingness to put up prices. 

“But the hawkish skew of today’s announcement, with upgrades to growth and inflation forecasts, suggests one more rate rise wouldn’t be out of the question. And if the Bank of England’s expectation of greater stickiness in inflation proves true, the prospect of rate cuts may be delayed until well into 2024.”