In brief

• The Bank of England’s (BoE) Monetary Policy Committee (MPC) delivered a slight dovish pivot, softening its tightening bias, but said it is not ready for cuts just yet.
• UK inflation has cooled significantly but some pricing pressures still remain, and there are potential upside risks. The growth outlook is improving aided by fiscal stimulus.
• We maintain our call for no cuts until the second half of the year at the August meeting.
• For sterling cash investors, it is likely that interest rates have already peaked, although they continue to present relative attractive opportunities.

The BoE held the Bank Rate steady at 5.25% for the fourth consecutive meeting but removed their bias towards the next move being another hike in rates. Notably, the decision was not unanimous as two members continued to vote for a 25 basis point (bp) hike, while one member voted for a 25bp cut leaving six members, including the Governor voting for unchanged rates. In the accompanying commentary, the bank dropped its warning that “further tightening” would be required, instead, confirming it would “keep under review for how long Bank Rate should be maintained at its current level” to make sure that inflation sustainably falls back to the 2% target over the medium term.

Exhibit 1: UK Bank Rate remain at 5.25%

Source: J.P. Morgan Asset Management and Bank of England, as at 2 February 2024.

Sustainable inflation is the name of the game

While the UK has come a long way in its fight against inflation, Governor Bailey warned it was not the time to declare victory yet. Headline CPI has fallen from an October 2022 peak of 11% to 4%, reflecting lower energy and goods prices, and is expected to fall further towards the 2% target by the first quarter of 2024 as global price pressures fade and the effect of past rate hikes continue to feed though. However, the BoE also forecast that inflation could subsequently edge higher again. There also remains material upside risks to the outlook from geopolitical developments, continued elevated pay growth and sticky services inflation – a key indicator of the persistence of price rises incorporating some of those labour costs – which remained at 6.4% in December.

Nevertheless, it is noteworthy that the MPC removed its longer-term upside inflation skew, now judging the risks to its projections are more balanced than previously estimated. Also, an important point from projections, the MPC’s ‘constant rate’ forecast shows CPI inflation falling to 1.4% in two years’ time, an early indication that the BoE may cut rates this year (Exhibit 2).

Exhibit 2: Bank of England modal CPI inflation forecast (% year-on-year)

Source: J.P. Morgan Asset Management and Bank of England, as at 2 February 2024.

Pressures easing against an improving outlook

BoE forecasts suggest that growth could recover in the first half of 2024 and may be stronger than projected in the November forecasts. The fall in the market’s base rate expectations and anticipation of rate cuts has reduced the slack in the economy, reducing the effect of previous tightening. Meanwhile recent purchasing managers’ business surveys suggest activity in the private sector has stabilised and may be edging up again. Fiscal stimulus already announced in the government’s Autumn Statement and the potential for additional tax cuts in the upcoming Spring Statement could also serve to boost aggregate demand, which combined with an historically tight labour market would narrow the output gap.

Exhibit 3: Bank of England modal GDP forecasts (% year-on-year)

Source: J.P. Morgan Asset Management and Bank of England, as at 2 February 2024.

Investment implications

The shift in tone from the MPC was less dovish than the market expected. We believe the Bank will proceed cautiously, unwilling to take any decision on cutting rates until it is more certain that price pressures have dissipated and inflation is on a sustainable path towards its target. We maintain our call for no cuts until the second half of the year at the August meeting.

For sterling cash investors, it is likely that interest rates have already peaked, although they continue to present relative attractive opportunities. Balancing the need to lock in longer tenor yields relative to the loss of carry, given the inverted yield curve, remains one of an important investment consideration. Given the current economic environment, we believe a laddered and diversified approach to investing cash across different maturities and instruments is warranted.

Source: J.P. Morgan Asset Management, as at 2 February 2024, unless otherwise stated.

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