CPI inflation in the United Kingdom fell from 3.0 percent in January to 2.7 percent in February, which could compel the Monetary Policy Committee (MPC) to remain on hold for the foreseeable future. But the labor market and the broader economy appear to be performing well, and the MPC has sounded more hawkish in the past month or so. We look for it to hike rates 25 bps at its next policy meeting on May 10.
The MPC at the Bank of England (BoE) decided at this week’s policy meeting to maintain its main policy rate at 0.50 percent, which was widely expected (Figure 1). The U.K. government mandates that the BoE hit an inflation target of 2 percent over the medium term. As shown in Figure 2, the overall rate of CPI inflation has exceeded 2 percent continuously over the past 12 months. The surge in CPI inflation last year reflects, at least in part, the sharp depreciation of the British pound in the aftermath of the Brexit referendum in June 2016. But sterling has stabilized over the past year, and CPI inflation is beginning to recede back toward target. Everything else equal, the MPC would want to remain on hold in coming months to watch the incoming price data.
A few weeks ago we brought forward our expectation of another MPC rate hike, which we had originally penciled in for the August policy meeting, to May due to the more hawkish MPC rhetoric and the incoming data flow. We currently expect that the MPC will then remain on hold until early 2019, but we acknowledge that there is a reasonable probability that it could hike rates yet again later this year. As the MPC itself noted, a major uncertainty facing the U.K. economy remains the Brexit negotiations. If this uncertainty should start to weigh on growth later this year, then the MPC likely will remain on hold after its expected rate hike in May.