MPC hikes by 50bps, closes in on peak
• The Monetary Policy Committee (MPC) raised the Bank Rate by 0.50% to 3.50%, in line with our own and market expectations.
• There were three dissenting votes with Mann supporting a 75 basis points (bps) hike, whilst Tenreyro and Dhingra supported keeping rates on hold.
• Despite the dovish split of the votes, the minutes remained hawkish with the MPC focused on the risk of further wage and price pressures.
• Timing of the pause will depend squarely on the labour market and wages will be central – Bank of England (BoE) sees wages near their peak and views risk around wage growth as two-sided.
• We continue to expect 50bps hike in February and a further 25bps hike in March seeing rates peak at 4.25%.
• We think today’s doves arguments of the lagged impact of policy tightening will echo later next year and we expect the BoE to begin to ease policy ahead of other central banks. We currently pencil in one 25bps cut in Q4 2023 and a further 100bps in easing across 2024.
The BoE's MPC raised the Bank Rate by 0.50% to 3.50% in line with our own and market expectations. The minutes remained hawkish with the MPC focused on the risk of rising wage and price pressures that could pave the way for a 50bps hike in February, in line with our expectations. The minutes maintained a continued focus on the labour market. The MPC suggested that wage pressures appeared to be close to a peak, but with the labour market still tight and uncertainty over the trajectory of wages highlighted by BoE Agents reports and underscored by the wave of industrial action taken by workers in December – the MPC’s work is not yet done.
The MPC was split three ways (1-6-2) over today’s hike. Catherine Mann voted to increase rates by 75 basis points (bps) whilst Swati Dhingra and Silvana Tenreyro preferred Bank Rate to remain unchanged. Catherine Mann continues to argue for a faster pace of rate hikes, bringing forward potential future hikes to prevent the Bank being forced to continue tightening as the economy weakens next year. She also acknowledged the role that faster rates hikes would play in helping to moderate an “inflationary psychology embedding in wage settlements” a clear acknowledgement of current rise in industrial action. Dhingra and Tenreyro argued that the Bank Rate had already risen sufficiently – the economy and labour market having begun to show signs of weakness – and lags in the transmission of monetary policy meaning that current tightening would continue to impact activity over the coming months even if the Bank were to stop at current levels.
As we have continued to argue, developments in the labour market are key to how long and how far the BoE will have to go with rates. Acknowledging that whilst still historically tight, the labour market appeared to be past peak tightness and employment growth appeared to be easing. The Bank expects private sector wage growth to flatten off around 7% in the coming months before declining in 2023. But it will want to be sure of this before pausing. For now, the MPC sees risks around this as two sided, with indicators in the KPMG/Rec survey indicating pay pressures were easing whilst intelligence from BoE Agents suggested further upwards pressure on wage growth.
In lieu of the full update of the BoE’s forecasts due in February, the BoE also updated their growth and inflation figures in the light of the Autumn Statement that came after November’s rate decision. The Bank now expects UK GDP to decline by -0.1% in Q4 2022 compared to -0.3% prior, allowing for a solid start to Q4. We continue to expect a softer outlook mindful that industrial action across a range of industries, but particularly rail and post could have a more deleterious impact on GDP in December, impacting Q4 and Q1 GDP. Overall, the BoE now expects GDP to be 0.4% higher next year as a result of the government’s Autumn Statement intervention, but they see growth 0.5% lower three years out as a result of the fiscal tightening. They also expect to see inflation 0.75 percentage points lower in Q2 2023 as a result of the Energy Price Guarantee.
Notably, the Bank made a distinction between their own and the Office for Budget Responsibility (OBR)’s forecasts. They stated that their respective growth profiles “diverged significantly” from the second year of the forecasts with the OBR more optimistic on growth and productivity prospects – a view we’d shared following the release of the OBR projections.
The minutes also provided an update on the status of the £19.1 billion in financial stability gilts purchased by the BoE to stabilise the gilt market following September’s ‘mini-budget’. As of 13 December, around 40% of the gilts purchased during these operations had been sold. £6 billion of active sales of gilts held in the BoE’s Asset Purchase Facility (APF) took place this quarter, this brings the total unwind of the balance sheet to £7 billion this quarter, and £44 billion over 2022. An update on the operational arrangements for sales in Q1 2023 are due to be published on 16 December at 6pm GMT.
In the year since the BoE began raising rates in December 2021, they have increased rates by 350bps. Exactly when the BoE pause will be will depend on developments in the labour market. The MPC continues to guide that the majority judge that further hikes “might be required” and the previous pushback on market rates has been dropped – markets have repriced significantly since the November and the guidance was no longer warranted. We continue to expect the MPC to hike by 50bps in their next meeting on 2 February and in our view the minutes squarely leave this option on the table. Following this we look for a further 25bps hike in March as slack begins to emerge in the labour market where we expect them to pause. However, today’s doves’ arguments of the lagged impact of policy tightening will we think echo later next year and we expect the BoE to begin to ease policy ahead of other central banks, but only as the Bank gains confidence that its forecasts of economic and labour market weakness finally emerge. We currently pencil in one 25bps cut in Q4 2023 and a further 100bps easing across 2024.
Markets have reacted to the dovish surprise with markets expecting a more hawkish vote skew. Markets have also trimmed expectations of rate rises now expecting rates to peak at 4.5% in August. The pound was down 0.9% against the dollar and 0.3% against the euro. Gilt yields fell across the curve following the announcement with 10-year yields falling to 3.212% after the announcement.
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