The latest UK economic releases make it increasingly likely the Bank of England (BoE) will start hiking its Bank Rate from 0.10% in December, after earlier stunning markets this month by deciding to keep interest rates unchanged despite warning about the risks of rising inflation.
The BoE left its Bank Rate on hold at its November meeting so policymakers could wait for more data to see if unemployment would rise after the UK pandemic jobs-subsidy scheme finished in September. The chart shows Britain’s jobless rate increased early in the pandemic last year but after the government set up its facility to subsidize wages to keep workers in their jobs, the unemployment rate began to decline again.
The jobs subsidy scheme ended in September so officials will need to wait for October’s labour market statistics - due on December 14 just before the BoE next meets on December 16 - to get a clearer picture of whether unemployment will start to increase again. But September’s data released this week showed the UK labour market continues to recover with the jobless rate falling from 4.5% to 4.3%.
At the same time, UK inflation is rising sharply above the central bank’s 2% target. October’s consumer price index (CPI) report also released this week showed inflation jumped from 3.1% in September to 4.2% last month. Thus, inflation has reached a decade high now as the chart above shows.
Source: Bank of Singapore, Bloomberg.
Consumer prices rose strongly last month because of higher fuel costs and a semi-annual review by UK utility regulators that increased gas and electricity tariffs by 12%.
But even after excluding volatile food and energy prices, core inflation still rose from 2.9% in September to 3.4% in October as reopening demand boosted services costs including airfares and supply bottlenecks led to further rises in goods prices such as used cars.
Inflationary pressures appear set to continue over the next few months given higher energy costs and ongoing supply disruptions. CPI inflation is likely to peak around 5% in the spring of 2022. Thus, the BoE - facing inflation well above its 2% goal and the UK labour market continuing to recover - seems poised now to start raising its Bank Rate at its next meeting in December.
We think officials will lift the benchmark rate from 0.10% to 0.25% at next month’s meeting and follow up with two additional increases to 0.75% in 2022. The BoE will therefore become the first major central bank to raise interest rates since the pandemic began, to the benefit of the GBP.
In contrast, we expect the dovish Federal Reserve may wait until as late as 2023 to begin hiking its fed funds rate from 0.00-0.25% while the European Central Bank and Bank of Japan may take even longer to start increasing their deposit rates from -0.50% and -0.10% respectively.
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