Bank of England predicts growth tailwind as impact of interest rates wanes
The fading impact of interest rates and a larger population will provide a tailwind to the UK economy in the coming years, the Bank of England said today.
The Bank’s May Monetary Policy Report (MPR), released alongside its latest rate decision, painted a rosier picture compared to its February forecasts, with growth higher and inflation lower across the forecast period.
The UK economy is expected to grow by around 0.5 per cent in 2024, the Bank said, an upgrade on the Bank’s previous estimate of just 0.2 per cent.
Looking into next year, it will then pick up to one per cent in 2025 and 1.3 per cent in 2026, compared to a previous estimate of 0.8 per cent and one per cent.
The main contributor to the slightly stronger rate of growth was stronger population growth.
In its February round of forecast, the Monetary Policy Committee (MPC) did not include the latest population projections from the Office for National Statistics (ONS).
These updated projections suggest the working age population will increase by around one per cent a year, compared to a previous estimate of 0.75 per cent.
“This raises significantly the paths of labour supply and potential output over the forecast period,” the Bank said.
Inflation meanwhile is expected to be slightly lower than in the Bank’s previous projections.
Although inflation is expected to fall to two per cent when April’s figures are released in two weeks time, the Bank is then projecting a slight pick-up in inflationary pressures.
At the end of this year, the Bank of England expects the headline rate to stand at 2.6 per cent before finally returning sustainably to the two per cent target in early 2026 – two quarters earlier than forecast in February.
The lower path of inflation largely reflects a higher path for interest rates, as markets have dialled back expectations for how much the Bank will cut interest rates.
The Bank’s forecasts are based on the market curve for interest rates. In February, markets thought the Bank Rate would be around 3.2 per cent at the end of the forecast period.
This time around, markets were anticipated the Bank Rate to fall to just 3.7 per cent taking into account fears over stubborn inflation.
“Less persistence could also reflect the continued unwind of the previous shocks to energy and other imported goods prices,” the MPR noted.
Interest rates were left on hold today but suggested a June rate cut might be on the cards.