UK economy: Interest rate cut a ‘certainty’ in February after weak data
A February interest rate cut is a “certainty” after new data suggests that inflationary pressures are weaker than previously thought, but the path beyond remains unclear.
Economists expect the Bank of England to back a third rate cut next month after two important pieces of economic data were published this week.
Figures out on Wednesday showed that the headline rate of inflation fell to 2.5 per cent in December, down from 2.6 per cent previously and below expectations.
Rate-setters will likely have been paying particular attention to services inflation, which is a good gauge of domestic price pressures.
Services inflation fell to 4.4 per cent, down from 5.0 previously and well below the level predicted by the Bank of England back in November.
The sharp drop in services inflation was driven by erratic factors, and will likely bounce back somewhat next month.
But Rob Wood, chief UK economist at Pantheon Macroeconomics, said the fall still provided a “window of opportunity” for the Bank to ease borrowing costs next month before prices rebound.
The case for cutting borrowing costs in February received a further boost after fresh data showed that the UK economy underwhelmed again in November.
GDP grew just 0.1 per cent following two consecutive months of contraction, meaning the UK has barely recorded any growth since March.
‘The UK economy is flat as a pancake’
“The UK economy is flat as a pancake and needs some incentives added to the ingredients. A rate cut on 6th February should now be a certainty,” Jamie Constable, chief market strategist at Singer Capital Markets said.
Similarly, Thomas Pugh, UK economist at RSM said: “The combination of weaker-than-expected inflation and economic growth means an interest rate cut in February is now a sure bet.”
Markets are now fully pricing in two rate cuts this year, with the odds of a third rising a little after the weak GDP figures.
But Gabriella Dickens, G7 economist at AXA Investment Managers, expects the Bank to cut rates four times, particularly given the slowdown in the economy.
“Today’s data provides further evidence that restrictive monetary policy is biting,” she said.
Beyond February the path for rates is complicated by the likelihood that inflation will pick up in coming months even though momentum in the economy has slowed.
Some economists expect inflation to rise to more than three per cent on the back of higher energy prices, a weaker pound and the impact of the government’s Budget.
However, this might not deter the Bank from cutting rates if rate-setters are more concerned about the economy’s sluggish performance than by the risk of renewed inflationary pressures.
Alan Taylor, one of the Bank’s rate-setters, raised the prospect of much more aggressive rate cuts if the economy weakened at a faster pace than expected.
In a speech delivered in Leeds yesterday he outlined a downside scenario in which the Bank might have to cut interest rates as many as six times in order to support the economy.
“We are in the last half mile on inflation, but with the economy weakening, it’s time to get interest rates back toward normal to sustain a soft landing,” he said.