Mark Carney said the Bank of England still intends to deliver “modest” tightening after an unexpected economic slowdown derailed an interest-rate hike that investors had anticipated as soon as this month.
The governor was speaking after officials kept the key interest rate on hold at 0.5% after a first-quarter slump, and said inflation will weaken faster than previously anticipated. Money markets shifted to no longer fully price in an interest-rate increase this year.
“We think the momentum in the economy is going to reassert,” he told reporters in London. “The Monetary Policy Committee judges that an ongoing, modest tightening of monetary policy over the forecast period will be appropriate to return inflation sustainably to its target.”
The MPC voted 7-2 to hold the rate steady, as predicted by all but three of 54 economists in a Bloomberg survey. Ian McCafferty and Michael Saunders reiterated their support for an immediate increase.
Money markets now show the probability of an August increase in borrowing costs as only about 50%, and a hike by the end of the year – previously fully priced in – at about 85%. Sterling initially declined but recouped some of those losses as Carney spoke. It was down 0.2% at $1.3527 as of 12.58pm in London.
The decision ends a roller-coaster ride for investors who had expected an increase until a few weeks ago, when data revealed a near standstill in economic growth and slower-than- expected inflation. While the BoE keeps alive the prospect of tighter policy to come, its statement suggests a gentle pace.
In the press conference after the decision, Carney was consistently forced to defend the BoE’s communication strategy since February’s meeting.
Explaining the decision to stand pat, the majority of the MPC noted the recent weak numbers. They said that “the costs to waiting for additional information were likely to be modest, given the need for only limited tightening over the forecast period.”
New forecasts from the central bank showed inflation will slow more sharply, falling to the 2% target in two years. But it said this is partly because the pass-through of the pound’s depreciation since the Brexit vote is happening faster. It still sees a small amount of excess demand in the economy by early 2020.
The Inflation Report also showed that about one quarter-point hike a year will be needed to return inflation to the goal after the first increase in a decade last November.
“An ongoing tightening of monetary policy over the forecast period would be appropriate to return inflation sustainably to its target at a conventional horizon,” the BoE said. It repeated its well-worn refrain that future increases will come “at a gradual pace and to a limited extent.”
The BoE isn’t the only central bank to wobble on the exit ramp from the easy money of the past decade, even as the US Federal Reserve sticks to its plan to gradually raise rates.
The European Central Bank may now wait until after June to outline its next steps, while the Bank of Japan recently played down when it will reach its 2% inflation target. Sweden’s Riksbank and the Bank of Canada have also revised their tightening expectations.
New Zealand central bank Governor Adrian Orr said in an interview yesterday that the bank wants to see wages rise and start to drive up prices before it increases interest rates from a record low.
In the updated forecasts, the UK central bank sees growth at 1.4% this year, down from 1.8% in February. But it puts all this down to the first-quarter slump, which it suspects will be revised up to 0.3% from the initial estimate of 0.1%. The bank’s forecasts for 2019 and 2020 were unchanged at 1.7%.
The MPC’s two dissenters in favour of tighter policy put more weight on surveys suggesting the slowdown was temporary and signs that domestic inflationary pressures are building.
Their argument hinges on the labour market, where unemployment is the lowest since the 1970s and wage growth is picking up, bolstering their assessment that slack is largely used up.
The central bank reiterated that the economy may be running a bit hot for its potential as negotiations to leave the European Union constrain the supply side. With the split scheduled for March 2019, the BoE said managing the implications of Brexit remains the main challenge for rate setters.
BoE governor Mark Carney addresses the media during the quarterly Inflation Report press conference in London yesterday. The bank still intends to deliver u201cmodestu201d tightening, he said.
