BoE keeps rates on hold and options openContributors Nandini Ramakrishnan, Global Markets Insights Strategy Team
The Bank of England (BoE) leaves monetary policy unchanged, increases UK growth for the year and will monitor rising inflation.
- As expected, the BoE kept interest rates on hold at 0.25%. The asset purchase programme also remains unchanged.
- Significant increase to growth expectations: UK GDP is predicted to grow by 2.0% in 2017, up from last November’s forecast of 1.4%, which was itself an upgrade from the 0.8% forecast made in August 2016.
- Specific concerns over inflation rising too quickly: The BoE anticipates inflation reaching 2.7% by the end of the year—well above its target rate of 2%. However, it will tolerate overshooting of the target to some degree given the massive fall in sterling.
Growth forecasts look strong and loose monetary policy has helped support growth after the EU referendum result. However, BoE Governor Mark Carney emphasised that once Article 50 is invoked and trade negotiations commence, the consumer will play an even more important role in carrying UK growth through these uncertain times
Consumption makes up 60% of UK GDP, and with recent small stumbles in retail sales and household borrowing, the UK consumer is firmly under the spotlight. If real wage growth softens too much, consumers may reduce their spending, leading to a drag on growth. On the other hand, Carney stated that if wage growth picks up faster than currently anticipated, the BoE would tighten monetary policy appropriately.
Another interesting point was the recalibration of “economic slack,” with the Bank stating that the unemployment rate could fall further before causing significant inflationary pressures.
Market reaction was mixed and muted: GBPUSD fell 0.8% after the announcement, down to USD 1.25. 10-year Gilt yields fell by 8 basis points. The FTSE 100 and FTSE All Share rallied slightly, both posting gains of less than 1%.
Markets had hoped for further clarity on monetary policy for 2017, but the BoE kept its options open, leaving room to either remain very supportive or become more hawkish towards the end of the year. While the UK’s interest rates remain very low, the possibility of a rate increase towards year-end has not entirely dissipated. Market expectations for an increase in BoE Rate this year decreased after today’s meeting, but with higher inflation and higher bond yields likely in the medium term, traditionally defensive sectors and “bond proxy” stocks appear less attractive in the UK stock market. In the near term, the weaker pound helps boost the FTSE 100 because of its large share of international revenues. Selectivity will be key for investors as we head towards Brexit negotiations, in which specific sectors and companies will face various challenges and opportunities.
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