Janus Henderson: UK interest rates a balancing act

​As central bank announcements go, the Bank of England’s policy announcement this Thursday is shaping up to be particularly interesting. At first glance that may seem surprising given that the broad consensus and the market pricing points to an almost guaranteed 25 basis points (bps) interest rate hike, the first from the Bank of England ('the Bank') since 2007. However, whilst it appears that there is a majority of the Bank's Monetary Policy Committee (MPC) members in favour of higher rates, the outlook for the UK economy remains murky. A tight labour market, elevated inflation and a pick-up in consumer debt are the underpinnings for the move to higher rates, however, real wage growth is negative and currency weakness deserves much of the blame for the elevated levels of inflation being experienced in the UK. Moreover whilst some argue that the pick-up in consumer credit growth is a signal of higher rates needed, a counterargument can be made that this merely disguises the fragility of the UK consumer, something that will only be accentuated with tighter monetary policy.

Brexit uncertainty lies at the heart of this dilemma both with regards to the Bank's current stance and any likely future moves in policy. The Bank was criticised heavily from various quarters for being overly pessimistic and overly reactive in the immediate wake of Brexit. With the UK economy having shown resilience over the past 15 months it is perhaps not surprising that the Bank has a more balanced view of the outlook now. However murmurings of policy error can be heard in some corners of the market as forward-looking measures of growth point to weakness ahead, particularly in the consumer sphere. It would be ironic that with much of the Brexit uncertainty ahead of us still, the Bank is to finally move to tighter stance of policy potentially as those initial post Brexit forecasts may be looking more prescient.

Our expectation is that the Bank will hike rates by 25bps on Thursday and in doing so will want to signal their data dependence with regards to future moves in the base rate. The vote is expected to be split with at least two members dissenting from the hike, a closer vote will likely be interpreted dovishly. Overall with the market so well positioned for a hike, the risks for yields appear to be to the downside should the MPC choose to wait. It will take a degree of hawkishness that we do not expect them to muster, to see further interest rates priced over and above what is discounted presently.