UK Reaction: MPC delivers a hawkish 50bp hike

The BoE's MPC increased the Bank Rate by 0.5% to 2.25% in line with consensus forecasts, but below our own expectations of a larger 75 basis point (bp) hike. The MPC’s vote was split three ways 1-5-3; Swati Dhingra, the newest member of the MPC, voted for a 25bp hike, while Jonathan Haskel, Catherine Mann and Dave Ramsden voted for a larger 75bp hike. Swati Dhingra’s replacement of Michael Saunders appears to add to the dovish voices on the committee as Saunders was seen as one of the most hawkish MPC members. The MPC left the door open for further ‘forceful’ action and whilst we see them guiding towards continuing their pace of 50bp hikes, the scale of fiscal stimulus announced by Chancellor Kwarteng tomorrow could see more MPC members convinced a faster pace of tightening is warranted.

The MPC voted unanimously to begin the active sale of gilts in their Asset Purchase Facility (APF) and becomes the first Central Bank to do so. As set out in their Market Notice, the BoE expects sales to amount to £10 billion per quarter in the coming year, with the pace reviewed annually. The commencement of active sales overwhelmingly reflects the structure of the APF assets with the BoE holding more longer dated bonds and does not leave the pace of QT in the UK much above peers. In comparison with the Federal Reserve, the pace of the BoE’s balance sheet runoff including both passive and active unwind is around two-thirds the pace of the Fed (as a proportion of GDP). The BoE also confirmed that the sale of APF corporate bonds would start one week later than previously announced, with the first operation to take place on 27 September. 

The MPC appeared cautious to increase the pace of tightening prior to a full assessment of the impact of the Government’s fiscal announcements on the economy. They acknowledged that whilst the Energy Price Guarantee will reduce the peak of inflation, it is “likely to add to inflationary pressures in the medium term”. Furthermore, the MPC remain focused on inflation expectations as inflation is set to remain well above target for the coming months. The next MPC meeting will come alongside an updated Monetary Policy Report in which the BoE will update their forecasts and assess the government’s fiscal plans in full. 

Notably, the MPC made little reference to the impact of sterling on their rate decision. With the pound trading around 40-year lows against the dollar, we had expected the BoE to consider the impact of a weak pound on inflation, but at present this appears not to be a prominent part of the MPC’s current considerations.

We continue to expect the MPC to hike rates by 50bps in November. However, this is likely to be another close call between 50bps and 75bps. We suspect that given the BoE’s hesitancy to accelerate the pace this month, 50bp is more likely. Developments between now and the next meeting will also influence this, with the government’s Fiscal event tomorrow and the scale of additional fiscal support announced will be key. Following this, we expect the BoE to hike rates by 50bp in December and 25bp in February bringing Bank Rate to 3.50%, this is below market expectations which see Bank Rate reaching over 4.75% next year.

Market reacted to the BoE hike and the with the anticipation that rates could rise further in coming months. The yield on 10-year gilts rose by 10bp and 2-year gilts rose by 5 bps following the announcement. The pound fell back against the dollar initially and following a small bounce back has continued to decline with the pound now trading at $1.256. The pound also initially fell back against the euro, retracing most of these losses now trading at €0.874.