Central banks: Will they, won’t they?

The coming weeks see central bank monetary policy decisions from the Federal Reserve (Fed, 31 July), the European Central Bank (ECB, 18 July), the Bank of England (BoE, 1 August) and Bank of Japan (BoJ, 3 July). For now, the BoE is the only one of those meetings where I think we will see a change in interest rates (25bps cut), but this remains a data-dependent call and the coming days see some key data releases.  

I think that a Fed rate cut is nearing after recent (lower) inflation and labour market data (rising unemployment rate), but assume that they will particularly want to see a couple more reassuring inflation prints before a policy move, so that September is more likely than July for a first cut. I continue to have two 25bps rate cuts pencilled in for this year).

I have forecast a bit more monetary policy tightening from the BoJ this year. Markets have priced some probability that this could happen as soon as the meeting at the end of July.

I have two more cuts pencilled in this year for the ECB, but recent euro area services inflation has looked surprisingly sticky. Added to hints from speakers around how much more data and analysis will be available at the September meeting compared to the July meeting, and I think July looks unlikely for another rate cut.

My central forecast has been that the BoE would start to cut rates in August, assuming that the data increased rather than reduced confidence in the inflation outlook. Recent stronger-than-expected May GDP (which has partly led me to mark up my 2024 GDP growth a bit) doesn’t create any sense of urgency for cuts. Although labour market data suggests that more slack has opened up in the labour market, pay growth remains strong.  A stronger-than expected-inflation print (especially services inflation) and continued strong pay growth, in my view, would see my most likely month for a BoE rate cut move from August to a (still data dependent) November. Unlike the ECB in June, the BoE haven’t talked themselves into something of a corner on interest rate cuts; signalling on a possible August rate move has not been clear. Recent Bank of England commentary (Haskel, Pill, Mann) has pointed away from imminent rate cuts (e.g. Chief Economist Pill saying that “It is hard to dispute the case that inflation persistence in the UK continues to prove, well, persistent”), although I see those particular policymakers as being more on the hawkish side of the Monetary Policy Committee (MPC).

Beyond the next month and focusing on the ECB and BoE, cumulatively I have pencilled in a similar number of rate cuts by the end of 2025 (five 25bps rate cuts). Market pricing at the time of writing has something similar baked in too. But the economic data are painting a picture of two different economies – especially when it comes to the labour market – and central bank paths could diverge more than expected.

There are plenty of similarities between the two economies of late: Recent political uncertainty has probably weighed a little on growth; the composite PMIs have cooled in both economies, indicating weaker positive private sector output growth in June; services inflation is sticky in the euro area and still at relatively high levels in the UK.

However, when it comes to labour markets at least, the euro area unemployment rate is still at record lows while the UK labour market in recent months has been showing more and more signs of loosening: A higher unemployment rate; falling employment; falling vacancies; stronger candidate availability in the KPMG/REC recruiter survey (the Report on Jobs). Beyond the near term too, weaker working age population growth looks likely in the euro area than the UK as demographic challenges mount, driving further falls in the euro area unemployment rate compared to a flatter path in the UK.

Political stability may prove more of a differentiator in coming months in a different direction; I would generally see political uncertainty as a factor likely to drag on activity. It is not yet clear that France will find a lasting stable government given the post-election hung parliament, certainly compared with the UK government’s very clear absolute majority in parliament. However, perhaps the bigger contrast on that front may end up being with the US of course, at least in the build-up to November’s election, where the results of that election could have important implications for both the US and global economy.

For now though, it is back to data watching… and especially UK data watching, where that upcoming meeting decision feels like it is hanging in the balance.

Forecast table: Away from this central case, economies may diverge by more, driving bigger differences in path between the ECB and BoE.

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