MPC Meeting: Inching closer to rate cuts

Today’s decision to hold interest rates at 5.25% comes as no surprise. What was surprising, though, was that both members of the Monetary Policy Committee (MPC) who voted to hike rates in February voted for no change this time. That, combined with some tweaks to the forward guidance, meant today’s decision was a little bit more dovish than we expected. This was a small step towards interest rates cuts. A bigger one will come in May when the MPC is likely to shift its narrative preparing the ground for a cut in June. 

In the end, regardless of what the MPC says, the timing of the first rate cut will depend on the wage and inflation data over the next few months. We think a sharp drop in inflation and slowing wage growth will be enough to convince the MPC to start cutting rates in the summer. We then expect rates to end this year at 4.5% and settle at around 3.5%.

Not there yet 

Bank of England governor, Andrew Bailey, summed up todays MPC meeting by saying, 'we’re not yet at the point where we can cut interest rates, but things are moving in the right direction.' This was a pretty explicit signal, as far as central bankers go, that interest rates cuts are coming. 

Combined with Catherine Mann and Jonathan Haskel both dropping their calls for a 25-basis-point (bp) hike and the MPC acknowledging that interest rates would still be in restrictive territory even if they started to be cut, it’s pretty clear that the MPC is edging towards interest rate cuts.

The MPC also attempted to make future meetings live by noting that 'they would continue to consider the degree of restrictiveness of policy at each meeting.' Indeed, interest rate cuts are a possibility at every meeting for the rest of this year.

The thing keeping the MPC cautious is the strength of wage growth and services inflation. The MPC downplayed the recent, small, downside surprises from CPI inflation and AWE wage growth. They noted wage gains were broadly in line with the February MPR forecast, and 'an underlying measure based on a range of pay indicators had been running at a three-month on three-month annualised pace of around 5.' These are legitimate concerns for now, but we think it will become clear in the next few months that inflation and wage growth have eased enough to allow the central bank to cut interest rates.

Where next?

The big question now is when, not if.

We think the MPC would be fully justified in cutting interest rates in May. In fact, if it holds them at current levels much beyond that it risks unnecessarily damaging the economy.

However, the committee has continually signalled that it will err on the side of caution. Therefore, we think the MPC will use its May meeting to prepare the ground for a rate cut by downgrading its inflation forecasts and changing its guidance, with the first rate cut coming in June.

By then the MPC will have confirmation that inflation has fallen below 2%. It will also have the official average weekly earnings data for April available which will show the impact of the near 10% rise in the National Living Wage on the pay distribution. That should be enough to convince most of the committee that it is safe to start cutting rates.

We are sticking with our forecast that the MPC will reduce the Bank Rate by 25-bp initially in June, and then at alternate meetings thereafter, leaving it at 4.50% at the end of 2024 and 3.50% at the end of 2025.