Bank of England set for August interest rate cut – but general election means doubts linger
While the Bank is widely expected to hold rates this week, focus now turns to its August meeting. Chris Dorrell explains that while all signs are pointing towards a cut in just under two months, the outcome is far from certain
For a number of months now, economists have been expecting the Bank of England to start cutting interest rates over the summer, whether that be June or August.
At the Monetary Policy Committee (MPC)’s last meeting in May, Andrew Bailey set the stage for a summer interest rate cut. “A change in Bank Rate in June is neither ruled out nor a fait accompli,” he said.
But that was before Rishi Sunak called the election. A June rate cut has essentially been ruled out by Sunak’s surprise announcement. Without an absolutely watertight case for cuts, the Bank of England would be sailing close to the wind by starting to ease policy just a few weeks before polling day.
The election also provides more substantive reasons to avoid cutting rates. MPC members have had to cancel their speeches given the ongoing campaign, which makes it difficult for rate-setters to prepare the ground for a potential rate cut or explain the decision after.
When the rate cut eventually comes, it’ll be the first since early 2020. Its important to explain the thinking for the decision and provide some guidance on what the next moves are likely to be. So it makes a lot of sense to wait longer in purely practical terms, but its also true that the data since May has not played ball.
Since the last MPC meeting, two rounds of labour market updates have been released as well as April’s inflation figures. The figures reveal worryingly high levels of inflationary persistence.
Annual wage growth is still running around six per cent, more than twice the level which is consistent with inflation remaining at the two per cent target. Likewise, services inflation is still around six per cent.
The two are closely connected because labour costs are the most important driver of prices in the services sector. The Bank was expecting to have seen much more progress on prices in the services sector by now.
In other words, even without the election, there are good reasons why the Bank might be unwilling to cut rates in June. Indeed, markets are increasingly nervy about an August cut with traders putting the odds at just 50/50.
May’s inflation data will be released on Wednesday, just a day before the Bank’s rate decision. Most economists expect inflation will fall back to the two per cent target for the first time since July 2021.
The figures will be crucial for determining whether the Bank is on track to cut rates in August, but the early indicators are positive.
A closely watched business survey showed that cost pressures were easing quickly in the services sector, raising hopes that April’s surprisingly strong reading was just a flash in the pan.
The survey, conducted by S&P in May, showed that the rate of input cost inflation faced by UK services companies increased at its slowest pace since February 2021. This helped output price inflation ease to its weakest level in over three years.
There has also been further good news, at least on wages. CFOs surveyed by the Bank of England in May expect wages to grow 4.1 per cent over the next year. This is the lowest level of expected wage growth since the Bank first started asking the question back in May 2022.
The Bank cannot cut rates on the basis of a few encouraging surveys, but the surveys do at least suggest that things are moving in the right direction. When the August rate decision comes around, there’s reason enough to think that the Bank of England will finally be able to start cutting interest rates.