Bank of England holds once again, will August see a rate cut?

At Thursday’s Bank of England (BoE) meeting, the committee voted by 7-2 to maintain interest rates at 5.25%. This was all very much in line with market pricing and expectations.

Whilst the vote split was unchanged from the previous meeting, the minutes suggested that for many on the committee, the decision was more finely balanced than the vote split suggested.

That outcome is not surprising given recent trends in the economic data. On one hand Consumer Price Inflation (CPI) is now back at the 2.0% target, and ‘indicators of short-term inflation expectations have continued to moderate’. Most recent business surveys suggest economic growth remains slow and although there is considerable uncertainty around the quality of the ONS Labour Force Survey Data, labour markets are continuing to loosen.

On the flip side however, services inflation remains worryingly high and sticky at 5.70%. Whilst CPI is back to the 2.0% target as of the May report, it is forecasted to rise during the second half of the year as declines in energy prices drop out the year-on-year inflation calculation and labour markets, although loosening, remain tight by historical standards.

Expectations of the first cut being in June have been declining for some time and despite the BoE’s independence, the announcement of the general election to come in early July was the final nail in the coffin. August, however, is very much still in play.

The underlying narrative from the committee suggests that there is a desire to lower interest rates from their current restrictive level. The market has reacted by increasing the probability of an August cut from 40% pre the meeting to 60% straight after. 

More importantly for gilt investors, however, is where interest rates fall to in this cycle, and that remains largely unchanged at around 3.50%. Given the economic data that feels about right for now. We remain long of UK gilts, but with a reduced conviction given valuations are less compelling than a few months ago.

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