MPC voted by 7-2 to maintain Bank Rate at 0.1%

The Doves in the Bank of England’s Monetary Policy Committee (MPC) voted by a majority of 7-2 to not increase the Bank Base Rate in the face of current inflationary pressures. They also voted not to alter the current Quantitative Easing program and maintain the level of monetary stimulus.

This can only be a signal that the MPC sees inflation not bleeding deep into the medium term, for which it is targeted to keep at 2% on a 2-year forecast, and that the economy is still not robust enough to withstand an increase in finance costs.

However, the Bank of England does expect interest rates will need to rise modestly to return inflation to the 2% target. The current market conditions do not imply that the interest rate will rise beyond 1% by the end of 2022.

When the Covid pandemic struck, the Bank needed to take immediate and substantial action to meet the inflation target with a cut in interest rates to 0.1% in March 2020, but the outlook has now changed.

The UK economy is recovering, unemployment has fallen, and inflation is expected to rise further to around 5% by spring next year.

The MPC summary states:

Both global and UK GDP increased in 2021 Q3, although at a slower pace than projected in the August Report. Growth is somewhat restrained by disruption in supply chains. Alongside the rapid pace at which global demand for goods has risen, this has led to supply bottlenecks in certain sectors. There have also been some signs of weaker UK consumption demand. While bottlenecks will continue to restrain growth somewhat in the near term, global and UK GDP are nonetheless expected to recover further from the effects of Covid-19 (Covid). UK GDP is projected to get back to its 2019 Q4 level in 2022 Q1.

Over the second half of the forecast period, and conditioned on the market-implied path for Bank Rate, UK GDP growth is expected to be relatively subdued. The pace of growth slows as potential supply growth eases back towards pre-Covid rates, and as higher energy prices and the fading of monetary and fiscal policy support temper demand growth. At the Autumn Budget and Spending Review 2021, the Government announced a higher path for government consumption, particularly over the next couple of years. By the end of the forecast period, a margin of spare capacity is expected to emerge.

Twelve-month CPI inflation fell slightly from 3.2% in August to 3.1% in September. Bank staff expect inflation to rise to just under 4% in October, accounted for predominantly by the impact on utility bills of past strength in wholesale gas prices. CPI inflation is then expected to rise to 4½% in November and remain around that level through the winter, accounted for by further increases in core goods and food price inflation. Wholesale gas prices have risen sharply since August. CPI inflation is now expected to peak at around 5% in April 2022, materially higher than expected in the August Report.

The upward pressure on CPI inflation is expected to dissipate over time, as supply disruption eases, global demand rebalances, and energy prices stop rising. As a result, CPI inflation is projected to fall back materially from the second half of next year. Conditioned on the market-implied path for Bank Rate and the MPC’s current forecasting convention for future energy prices, CPI inflation is projected to be a little above the 2% target in two years’ time and just below the target at the end of the forecast period. In an alternative scenario that is conditioned on energy prices following forward curves throughout the forecast period and as set out in the November Report, CPI inflation falls back towards the target more rapidly than in the MPC’s central projection, and is materially lower over the second half of the forecast period.

The MPC’s remit is clear that the inflation target applies at all times, reflecting the primacy of price stability in the UK monetary policy framework. The framework also recognises that there will be occasions when inflation will depart from the target as a result of shocks and disturbances. In the recent unprecedented circumstances, the economy has been subject to very large shocks. Given the lag between changes in monetary policy and their effects on inflation, the Committee, in judging the appropriate policy stance, will as always focus on the medium-term prospects for inflation, including medium-term inflation expectations, rather than factors that are likely to be transient.

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