The future of interest rate cuts is now “more uncertain” as the Bank of England suggested it was more worried about inflation ticking up higher than expected.
In its decision on Thursday, the Bank voted 5-4 for interest rates to be cut by 25 basis points to four per cent.
But the Bank now believes inflation could hit four per cent in September, a crucial month for Chancellor Rachel Reeves given figures from the month are used to calculate increases in benefits and pensions.
Governor Andrew Bailey said in a press conference the Bank would not cut rates “too quickly or by too much”.
The path of interest rates was “more uncertain”, he added, though it remained on a “downward” trajectory.
The Bank’s monetary policy report suggested the upside risks to inflation had afflicted policymakers, who were now more wary of a “surprise”.
Economists noted the risk of food prices increasing due to packaging regulation and extra labour costs imposed via Rachel Reeves’ hike to employers’ national insurance contributions (NICs)
City analysts have taken note of a slight shift in the Bank’s language suggesting it was near the end of its rate-cutting cycle.
The Bank said “the restrictiveness of monetary policy has fallen as Bank Rate has been reduced”, which has been “taken as a cue” for fewer interest rate cuts in the coming months, according to ING’s James Smith.
“Policymakers are evidently becoming wary about echoes of 2022, where a spike in food and energy prices prompted a much longer-lasting episode of higher inflation.
“Bank officials have recently cited research showing that inflation has a tendency to become more entrenched when headline rates exceed 3.5 per cent.”
Smith also said it was revealing that the Bank seemed “unfazed” by a deterioration in the jobs market.
“The fact that the payroll data is falling only gradually – and that it is highly concentrated in hospitality – suggests there’s no smoking gun right now that would mandate more aggressive policy easing.”
Economists at Pantheon Macroeconomics who predicted only one interest rate cut this year said the Bank’s rate-setters wanted to “tamp down market eagerness to price quarterly rate cuts”.
”They have shifted the focus to inflation, which matters when it is likely heading to a peak of four per cent, highlighted some nervousness on how restrictive rates are, and reiterated their guidance of a careful and gradual approach,” analysts at the consultancy said.
Higher interest rates put markets on edge
BlackRock Investment Institute’s chief UK strategist Vivek Paul said only a “rapid deterioration” in growth would prompt the Bank to cut interest rates while AJ Bell’s Laura Suter said there could be “some concern in markets” about the future of interest rates.
“The market is pricing in another cut in November and again in February, to bring base rate to 3.5 per cent.
“But with huge uncertain elements looming in the next few months, from Trump’s tariffs to the Autumn Budget, there are plenty of things that could move rates from here.”