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Bank of England officials who favor patience on scaling back stimulus will likely dominate the policy discussion this week, with risks to the labor market recovery outweighing a surge in inflation.
With almost 1.9 million people still on furlough, the Monetary Policy Committee will signal Thursday that it’s in no hurry to cut its 875 billion-pound ($1.2 trillion) bond-buying plan. It’s also unlikely to be swayed by the economic rebound, expected to be the fastest among the Group of Seven this year.
Governor Andrew Bailey will probably echo Federal Reserve Chair Jerome Powell, acknowledging the recovery but also emphasizing that the economy isn’t fully healed. He and the majority of other MPC members have repeatedly said that the inflation spike will prove temporary.
While policy won’t move this week, the BOE could still shake markets with a review into how it will eventually withdraw stimulus. Its current guidance is that it won’t consider reducing the stock of debt built up through its quantitative easing program until the key rate reaches 1.5%. A decision to lower that threshold could reverberate across the yield curve.
Setting a lower floor would be possible because the BOE is also expected to formally adopt negative rates as a policy tool, technically enabling officials to cut the benchmark below zero.
“The key is what are they going to do with this sequencing,” said Peter Schaffrik, global strategist at RBC Europe Ltd., which currently expects a rate hike in May 2022. If “they flip this around and make balance sheet retrenchment the primary tool in any kind of tightening then almost certainly that rate hike call is going to be too early,” he said.
On the immediate policy decision, the inflation pick-up along with strong economic growth has led to the start of a shift within the MPC.
Michael Saunders is likely to dissent on bond purchases, backing an immediate end. Dave Ramsden has also recently made some hawkish comments, though Bloomberg Economics doesn’t expect him to split from the majority, leaving the bank to complete the program by December as planned.
Traders have increased bets on rate increases. They’re pricing in 13 basis points of hikes by the middle of 2022, versus as few as 7 last month.
The MPC is temporarily down to eight members from the usual nine as a replacement has yet to be announced for former chief economist Andy Haldane. Most have made clear that now is not the time to withdraw stimulus.
Jonathan Haskel warned that “tight policy isn’t the right policy” for the foreseeable future, while Bailey says overreacting to temporarily strong growth and inflation could undermine the recovery.
They want to see whether the delta variant of the coronavirus is tamed and how well the U.K. labor market adapts to government support being withdrawn next month. Some industries are also suffering a shortage of workers, all of which will affect the economy, wages and inflation.
Those issues could weigh on growth over the rest of the year. There have also been a slew of real-time indicators suggesting little pickup in activity even after remaining virus restrictions were lifted on July 19.
“Despite the more positive short-term outlook, significant uncertainties remain,” said Hande Kucuk, an economist at NIESR in London. These include the “Covid endgame, the labor-market adjustment, how shortages will change after the end of the furlough scheme and also the persistence of inflationary risks.”
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