-Is Bank of England interest rate rise likely?
To avert a possible recession following the EU referendum in 2016 in which the U.K. voted to leave the EU, the Bank of England cut the interest rate from 0.50 percent to 0.25 percent – an all-time record level. These measures have worked well despite the rising uncertainty stemming from political hurdles during the ensuing Brexit negotiations. Following recent economic data, the monetary policy committee members seem encouraged and economists expect that they will reverse the emergency action by increasing the policy rate back to 0.50 percent this week.
In the third quarter, the U.K. economy posted a stronger growth rate of 0.4 percent than the expected 0.3 percent. Services were the largest contributor to growth, particularly driven by business services and the finance sector, which grew by 0.6 percent. On the other hand, average earnings excluding bonuses increased by 2.1 percent in the three months to August down from 2.2 percent in the months to July. Moreover, the Consumer Prices Index (CPI) climbed to 3 percent, a level it last reached in April 2012, and up from 2.9 percent in August. This means that household income fell below the rise of inflation and the weakening of sterling since the EU referendum.
The Bank of England aims to keep inflation at 2 percent in the medium term. Last month the Governor of the Bank of England, Mark Carney, indicated that interest rates could rise in the 'relatively near term' if the economy continued on its current path.
Responding to questions posed by the Treasury Committee on Oct. 17, Carney also said that 'inflation rising potentially above the 3 percent level in the coming months is something we have anticipated' because of the fall in the value of the pound.
He said he expected inflation to peak in October or November, and at that point, he thought it would be 'more likely than not that I would be writing on behalf of the Monetary Policy Committee (MPC) a letter to the Chancellor.
Last week, Fitch and Standard & Poor’s (S&P) also announced that the U.K.’s credit rating and outlook were affirmed. However, both rating institutions warned about rising uncertainty due to Brexit talks.
While affirming the U.K.'s long-term foreign currency issuer default rating at 'AA' with a negative outlook, Fitch said, “The U.K.'s ratings balance a high-income, diversified and advanced economy against comparatively high public sector indebtedness. Sterling's reserve currency status, deep capital markets and strong governance indicators further support the ratings.”
Fitch also said the negative outlook reflected the heightened uncertainty and corresponding downside risks following the U.K.'s decision to leave the European Union.
“Since June, the U.K. government and the European Commission have commenced negotiations on the terms of the U.K.’s withdrawal from the EU. The complexity of the issues, the magnitude of national interests at stake, the lack of a clear U.K. position, the EU’s negotiating stance, and the limited timeframe will make it challenging for the U.K. to secure a favorable agreement,” according to Fitch.
S&P said there was a wide range of potential outcomes to the negotiations including an exit agreement with a transition arrangement giving continued preferential access to the EU Single Market as a bridge to a future U.K.-EU free trade agreement, or the U.K. leaving the EU and reverting to trading on World Trade Organization terms.