All eyes turn to the Bank of England and the ECB this morning as monetary policy watchers digest the policy rhetoric that accompanied the US Fed’s expected 25bps rate rise last night.
Rob Clarry, Investment Strategist at wealth manager Evelyn Partners, discusses the Bank of England and says this week’s trio of benchmark rate decisions are being watched for what policymakers say as much as what they do:
“We expect the monetary policy committee to hike by 50bps with inflation still in double figures and some signs that the UK recession might be a bit shallower and shorter than was feared a couple of months ago. But the real interest will be in the split in the vote on the MPC as well as in the Monetary Policy Report that is due to accompany the decision, which will include fresh prognoses on inflation and growth. December’s meeting revealed a significant difference of opinion on the committee with a hefty 75bps split in opinions between one hawkish member who voted for a 75bps hike and two dovish colleagues who voted for no change.
“As the MPC’s task becomes more finely balanced over the coming months between bringing down inflation to target and not prolonging a slump in the real economy, such debates will be thrown into stark relief, so it will be interesting to read today’s array of views. And in the light of the IMF’s grim economic forecasts this week that cast the UK economy as the sick man of the G7 with a 0.6% fall in GDP for this year, the MPC’s refreshed outlook will be pored over for signs of optimism that were absent in November’s grim report.
“Last night, the US Federal Reserve’s policymakers raised its upper bound interest rate by 25 bps to 4.75, in line with market expectations and economists’ consensus. As this was a step down from the December hike of 50 bps, and that in turn from the jumbo 75bps hikes of earlier months, the Fed was keen not to allow this nudge upwards to be inferred as the eagerly awaited ‘pause’. Instead, it continued to sound hawkish despite falling inflationary pressures and some signs that the labour market is starting to cool.
“Fed chief Jerome Powell signalled at least two more rate increases were likely this year and that any cuts were unlikely until at least 2024, saying there was ‘more work to be done’ bringing inflation under control. Equity investors however chose to interpret Powell’s words more optimistically, with the S&P closing 1% up and the Nasdaq 2% higher.
“We did receive confirmation this week that a crucial milestone has been reached: short interest rates are finally above core PCE, the Fed’s preferred measure of inflation. Historically, short rates have needed to go above inflation for policy to be sufficiently tight. With this now achieved, it’s likely the Fed will go on ‘pause’ soon to see how this plays out in the real economy.
“Looking forward, the market continues to price a 25 bp hike in March, before the Fed really does go ‘on pause’.
“The European Central Bank meanwhile has telegraphed a 50bps hike for today that will take its deposit rate to 2.5%.”