13 August 2015

"Super Thursday" in the UK saw the Bank of England (BoE) publish its Monetary Policy Committee (MPC) minutes concurrently with its rate decision and the quarterly Inflation Report. Sterling and gilt yields fell after somewhat dovish MPC minutes revealed that just one member (Ian McCafferty) voted to raise Bank Rate. Expectations had been for two or possibly three members to support tightening, particularly after the minutes of last month’s meeting showed that the decision then to hold the interest rate "was becoming more finely balanced" for a number of members, who were only swayed to hold policy by the Greek debt crisis.

Inflation down, wages and GDP up

"The most striking development in the UK in the past year has been the fall in CPI inflation," declared BoE governor Mark Carney. The annual rate of inflation edged back down to zero in June and Carney said the near-term outlook is muted; the falls in energy prices over the past few months will continue to bear down on inflation at least until mid-2016. The UK might even slip back into deflation for a month or two, Carney added as the BoE halved its inflation forecast for the end of 2015 from 0.6% to 0.3%. However, despite the weak near-term outlook for prices, the BoE’s primary view is still for inflation to rise to around 2% in two years' time.

In contrast, wage inflation and GDP growth for 2015 were both revised upwards. In the press conference, Carney noted an increase in productivity. This has proved a conundrum during the crisis and into the recovery, with relatively strong demand for labour translating into only modest pressure on wages.

Data dependency

With the market expecting a rise in US interest rates this year, Carney said of the prospects for a rise in UK rates: “The likely timing of the first Bank Rate increase is drawing closer,” albeit the exact timing cannot be predicted in advance and is data dependent. The Bank raised its growth projection for this year, although the subdued inflation path has dampened expectations that the MPC will start raising rates this year.

What next?

After assessing all of the Super Thursday releases, we still believe that the next change in the BoE’s monetary policy stance will be to tighten, most likely a quarter or two after the US Federal Reserve. With the front end of the UK curve priced for a rate hike in Q1 next year – it is currently priced for March – we recently moved our underweight position in gilts to the middle part of the curve.

CARS ref: RSM-1704
This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or financial product or to adopt any investment strategy. The opinions expressed are as of 11 August 2015 and may change as subsequent conditions vary.

We still believe that the next change in the BoE’s monetary policy stance will be to tighten, most likely a quarter or two after the US Federal Reserve.