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Rate hike expectations still rising

UK
  • Short sterling is making news lows this morning with most of the strip lower by 4.0-4.5 ticks on the day, and the biggest moves seen in the Jun22 contract which is down 5 ticks. Gilt futures have also opened more than 40 ticks lower with our technical analyst noting the current bearish price sequence of lower lows and lower highs over recent days.
  • Markets are getting more confident about the prospects for a Bank of England hike with comments from Boris Johnson yesterday that he was confident the UK could move to a high wage, high productivity economy and that the current supply chain issues are merely teething issues as we move on that path. Higher wages would be something that would help make the MPC more confident about raising the Bank Rate.
  • Furthermore, energy prices continue to climb. Normally this is disinflationary at the 2-year forecast horizon. However, with inflation already expected to peak above 4%, higher energy prices could push that peak up even further and make it persist for longer. There is a growing feeling in markets that the inflation rate is getting too high to ignore and that it will start feeding through to higher inflation expectations.
  • Against this backdrop, breakevens are rising with UK 10-year breakeven rates rising about 4% for the first time since 2008 this morning. This means the market expects the RPI measure of inflation to average 4% over a 10-year period (i.e. this is not just seen as a transitory inflation issue).
  • Boris Johnson is expected to make his keynote speech today at the Conservative Party Conference at 11:30BST. Anything he says that could lead to further inflationary pressures is likely to spook the market more here. For example, if he talks about a big increase in the minimum wage that would add to inflationary concerns and a deanchoring of inflation expectations.
  • Note that in the MNI BOE Review (see here) we noted that we thought November was too early for a hike, but there are reasons to think that December is in play, particularly if we get a smooth move away from furlough.
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