MNI STATE OF PLAY: BOE Moves Fast, Hopes For Lower Rate Peak

The Bank of England has got off to a flying start with tightening policy, following December’s 25-basis-point hike with another in February, with four of the nine members voting for a 50-bps increase, and triggering quantitative tightening.

But the forecasts in its quarterly Monetary Policy Report and comments by Governor Andrew Bailey sent a strong signal that the Bank believes market rate expectations have been overblown. The strategy is to tighten rapidly now in the hope of ensuring that the rate peak is lower, with MPC members only divided over how fast they should go.

Bailey told the press conference it would be “wrong to assume that rates are on an inevitable long march upwards,” while the MPR’s market rate projection, based on Bank Rate peaking at around 1.5% by mid-2023, showed inflation at 1.6% in three years’ time, well below the 2.0% target.

Still, the MPC’s guidance was that another hike was likely “in coming months”, reinstating its November guidance and ensuring that both the March and May meetings are live. The MPC is not following a quarter-point-increase-a-quarter strategy, with members open to the idea of hiking at consecutive meetings if needs be.

The four members who made the case for a 50-bps hike pointed to the risks of recent upward trends in pay growth and of inflation expectations becoming more firmly embedded. One of the four, Catherine Mann, said in a speech last month that earlier monetary policy measures could keep mean rates end up having to be raised by less over the cycle.

BALANCE SHEET EXPERIMENT

The Monetary Policy Committee’s decision to proceed with full natural run-off of its gilt holdings means that the Bank is going to put to the test the theory that the unwind of quantitative easing should have little effect on fixed income markets.

By allowing run-off at a predictable pace until Bank Rate reaches 1%, the BOE aims not to spook the markets. Opting for partial reinvestment of the proceeds from a hefty GBP27.9 billion March 2022 gilt holding or delaying reinvestment, as some investors had speculated, would only have served to cloud the picture.

The next key focus is what the Bank will do when the policy rate hits 1.0%. Here it has given itself wriggle room, with guidance that it may actively sell gilts depending on market conditions.

A Bank survey out on Friday, which should have a wider reach than commercial ones as they can reach the large hedge funds and others, will reveal where it finds market participants think Bank Rate is heading and when that 1% threshold will be reached.