UK interest rates uncertainty after 'messy' event

The Herald Scotland

7 days ago

The outcome of the meeting - a quarter-point cut in benchmark UK interest rates to 4% - had been expected.
However, it was the revelations on the voting which were eye-catching.
The MPC minutes revealed: 'Four members voted in favour of the proposition (Andrew Bailey, Sarah Breeden, Swati Dhingra and Dave Ramsden). Four members (Megan Greene, Clare Lombardelli, Catherine L Mann and Huw Pill) preferred to maintain Bank Rate at 4.25%. One member (Alan Taylor) preferred to reduce Bank Rate by 0.5 percentage points, to 3.75%.'
A three-way split is not that uncommon at times when there is much debate and difference of opinion over what should be happening with interest rates.
However, a three-way split with the two most popular choices tied is most certainly a rarity.
So how to deal with this?
The minutes declared: 'In order to secure a majority decision on Bank Rate, the chair invited the committee to vote on whether: Bank Rate should be reduced by 0.25 percentage points, to 4%, or Bank Rate should be maintained at 4.25%.'
They revealed: 'Five members (Andrew Bailey, Sarah Breeden, Swati Dhingra, Dave Ramsden and Alan Taylor) voted to reduce Bank Rate by 0.25 percentage points, to 4%. One of these members (Alan Taylor), who would otherwise have preferred to reduce Bank Rate by 0.5 percentage points, voted for a 0.25 percentage points reduction rather than maintaining Bank Rate. Four members (Megan Greene, Clare Lombardelli, Catherine L Mann and Huw Pill) voted to maintain Bank Rate at 4.25%.'
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As the European economics team at US investment bank Morgan Stanley put it: 'So nice, they did it twice.'
Analysing the voting patterns in the context of what had been expected, the Morgan Stanley economists observed: 'The MPC had to vote twice in order to secure a majority decision, with four members initially voting for a hold (Pill and Mann, as consensus expected, with Lombardelli and Greene joining them), four voting for a 25bp (basis-point) cut and Taylor voting for a 50bp cut. Since a majority vote is needed, Taylor changed his vote, to a 25bp cut. The vote was closer than expected.'
It was indeed.
And it left economists scratching their heads somewhat on where things go from here.
The Morgan Stanley economists declared: 'Uncertain about the degree of restrictiveness, it seems the MPC think they might be done cutting. We think the recession probability is high (40%). Hence, we leave our modal (base case) rate path forecast unchanged (3.5% by year-end, 2.75% terminal), but accept that our near-term mean rate expectation has shifted higher.'
Mr Lynch, for his part, declared: 'It was a messy vote and the press conference which followed felt muddled. The line that the BoE will want to reiterate is that 'the committee judged that a gradual and careful approach to the further withdrawal of monetary policy restraint remained appropriate' but it appears that it is not set in stone that further cuts to interest rates are coming, although this is still the most likely outcome.
"This is due to the uncertainty that the MPC has on inflation in both the short and long run. In the coming months the BoE now expects that CPI inflation will hit 4% and the risks are skewed to the upside, mainly due to food and energy prices. Longer term they can see downside inflation pressures coming due to the slack in the economy.'
Noting what the Bank of England Governor had said, Mr Lynch added: 'At the press conference Andrew Bailey did not give much confidence in the view that more cuts to interest rates are coming. He said there was genuine uncertainty on the path of rates, with upside risks to inflation and downside risks on activity and labour market while economic growth was weak.
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"With a narrow vote split and the uncertain forward guidance it will make the upcoming data releases on the labour market and inflation even more important, because we are no longer on a pre-set course of interest rates."
Anna Leach, chief economist at the Institute of Directors, also highlighted greater uncertainty over the outlook for interest rates following last week's MPC meeting.
She said on Thursday that the 'widely anticipated 25‑basis‑point rate cut…provides welcome relief for households and businesses grappling with high borrowing costs'.
However, she added: 'The tight five-four vote, following an unprecedented second vote round, underscores deep divisions within the MPC. Most notably, deputy governor Clare Lombardelli joined the hawks in voting to hold, signalling caution amid rising inflation concerns.
'The minutes emphasise elevated upside risks to inflation, with the Bank now expecting a peak of 4% in September, driven by persistent food and wage pressures, and a slowing disinflation process. While policymakers reaffirm a 'gradual and careful' approach to further easing, today's split decision is a stark reminder that future cuts are not assured.'
Steve Ryder, senior portfolio manager at Aviva Investors, highlighted the three-way split and second vote on Thursday, and declared: 'This was far closer than we were expecting despite recent comments suggesting that elevated inflation is proving to be a concern for many of the MPC. The four who voted against today's cut do still see the case for further rate cuts. We would agree with this and still see slow and gradual normalisation as our base case, although the risks are becoming more balanced.'
Thomas Pugh, chief economist at accountancy firm RSM UK, declared that the split of the vote along with the acknowledgement that the restrictiveness of monetary policy has fallen and the increase in the inflation forecast to 4% 'puts a decidedly hawkish tint on the rate cut and raises the chances that the MPC chooses to skip a cut in Q4'.
He added: 'Looking ahead, the biggest question facing the MPC is to determine the degree to which the recent apparent weakness in the labour market is being driven by tax changes, or a weak economy and restrictive monetary policy.'
Luke Bartholomew, deputy chief economist at fund manager Aberdeen, said on Thursday: 'An interest rate cut today was almost universally expected, except it seems at the Bank of England itself where the voting patterns reveal a very close decision, which required a second round of voting before a majority could be found.
'The tight decision reflects the conflicting forces facing policymakers, with inflation proving stronger than expected but activity growth remaining weak. It will be difficult for the Bank to give clear guidance about the likely path of rates from here given the messy data and divided MPC. But in the end, we expect the weakness of growth to win out, and for the Bank to cut rates again later this year, and then through next year as well.'
There is little doubt that the outlook for UK interest rates is a lot more uncertain than people had thought before the Bank of England revealed the outcome of the MPC's latest meeting last week.
One thing that is certain, however, is that the UK is facing an unpalatable mixture of weakness and worries over a renewed rise in inflation. And that is grim news for an economy which has not had its troubles to seek for a very long time.