James Knightley, Research Analyst at ING, notes that the Bank of England has left monetary policy unchanged, but the surprise was that no-one joined Ian McCafferty in voting for an immediate 25bp rate rise.
“There has been a lot of speculation regarding at least one more member joining him based on the decent UK macro data and signals from the Federal Reserve that US monetary policy would soon be tightened. However, the committee believes that the near term outlook for inflation has weakened and they suggests that “more than likely than not inflation would remain below 1% into the second half of 2016”.”
“They cited sterling strength and weakness in energy prices, whose effects would “diminish only gradually”. Consequently they see downside inflation risks for the next two years, reflecting global factors, and balanced in year 3. Their dovishness continued into their view on wages, suggesting that growth “had been less evident more recently”, while remaining below past averages.”
“As a result “for most members, indicators of underlying inflation pressures were not strong enough to justify an increase in Bank Rate.” Nonetheless, McCafferty again argued that “the risk that domestic costs would rise more rapidly than in the central projection was sufficient to warrant an immediate increase in Bank Rate.””
“This clear dovish shift in the BoE’s thinking seems a little odd in an environment where the growth numbers are looking pretty good and where service sector inflation is pushing higher (currently 2.5%YoY). Even if energy prices stay flat, we should be looking at headline inflation above 1% in early 2016.”
“Furthermore, next week’s labour report is expected to post another decent jobs gain and wage growth figure. Still, the BoE’s assessment has diminished the prospect of a near-term 1Q16 hike, but we remain comfortable with our view that they will start tightening in 2Q16 – after the Federal Reserve, but well ahead of market expectations. Interestingly we also got some forward guidance on when the £375bn QE programme will start to be unwound – only when Bank Rate approaches 2%, which is at least 2 years away.”