This week’s update comes from Jon Pope from our cash management team.

The Bank of England plans to ‘explore how a negative Bank Rate could be implemented effectively’
MPC Minutes September 2020

‘Provided the incoming data are broadly in line with central projections….. it will be necessary over the coming months to increase Bank Rate’
MPC Minutes November 2021

This time last year UK money markets were bracing themselves for the implementation of negative interest rates and anyone thinking about higher interest rates was using a high-powered telescope. As the economy has bounced back over the course of 2021, the chances of interest rates dropping below zero have receded. But, as recently as two months ago, even the most hawkish commentators were not forecasting a rate rise until well into 2022.

Stronger inflation data started to bring a possible rate rise closer. The possible timing of such a move was brought into focus following a comment in the September MPC minutes that it might be ‘appropriate’ to raise rates before the end of 2021. The rationale for this comment was that inflation was expected to peak at a higher rate than previously forecast and remain above target for longer.

This comment, and subsequent statements from several MPC members supporting higher rates, startled money markets into life. Yield rose during October and a 15-basis point rate rise was expected by markets at last week’s MPC meeting.

In any event, the decision was to leave rates on hold with only two MPC members voting to raise rates. The Governor, Andrew Bailey, was one of the committee members who intimated that action was needed prior to the meeting but did not vote for higher rates. This has led to parallels being drawn with his predecessor Mark Carney who led an MPC labelled ‘an unreliable boyfriend’ for threatening higher rates but not actually voting for them. Several commentators have suggested that, whilst the correct decision may have been made this month, there has been a degree of miscommunication which has the potential to threaten the credibility of the Bank of England. This is a key issue for the Bank, if consumers and markets do not think they are serious about wanting to contain price rises then both camps will start to draw their own conclusions about future expectations. As the leader in the Times put it on Friday, ‘The case for action may not be yet proved, but the costs of inaction could prove high’.

The minutes of last week’s meeting make it clear that the committee does think that interest rates will have to move higher ‘in the coming months’. In a subsequent interview, Andrew Bailey said that the jobs market was key to the decision. The UK furlough scheme closed in September and the MPC wants to see the impact of this on unemployment. If those on furlough are not taken back into full time employment, then this will increase spare capacity and potentially lessen the threat of a tight labour market driving up wages.

By the next meeting in December, the MPC will have had two months of official labour market data for September and October, and so will have a better idea of post-furlough conditions. Early indicators are that many employees have returned to their roles and markets are factoring in a 75% chance that a 15-basis point rate rise will be sanctioned at the December meeting. Of course, this is conditioned on the empirical data supporting the current hypothesis.

Given the size of the economic shocks over the last two years, there are no models to help us chart what comes next.

Views vary with some thinking a small increase in December will assert credibility while others believe that the committee can afford to wait until February through to those who think Central Banks the world over have very little room to raise rates given the high level of indebtedness and fragility of the global economy.

Overall we would argue that the direction of travel is for modestly higher interest rates in 2022. Which, if taken as a barometer for overall economic health, must be a good thing.

Have a good week all.