The Bank of England’s Monetary Policy Committee (MPC) kept interest rates at 0.50% as expected on Thursday at its latest meeting. The MPC voted 8-1 in favour of keeping rates at the record low level. One member, Ian McCafferty, voted to raise rates by 25bps, maintaining his stance from the August meeting when he was also the only member to argue for a rate rise.
In the minutes, the Bank made no changes to its outlook for inflation, having recently downgraded it in its last quarterly report in August. Although the MPC acknowledged greater downside risks in the world economy since its last meeting, markets were anticipating a gloomier outlook by the Bank. This caused a knee-jerk reaction in the markets with the pound soaring against the dollar and the euro immediately after the minutes were published. However, the markets soon corrected and the pound returned to the levels before the announcement.
With annual CPI running at 0.1%, inflation remains well below the Bank’s 2% target. Lower food and energy prices, muted pay growth and sterling’s appreciation have kept downside pressure on inflation. But strong domestic demand and the dissipation of the temporary effects of lower food and energy prices should ensure that inflation returns to target in two years’ time.
However, the Bank pointed out several downside risks to inflation and growth, and increased uncertainty from the effects of recent events. China’s stock market crash and the yuan’s devaluation had a ripple effect on US and European equities, which have fallen by 5-10%. Oil prices have slipped further since the Bank’s last meeting and emerging market currencies have depreciated sharply. Slowing Chinese demand risks pulling metal commodities prices even lower. These developments have pushed back market expectations of interest rate increases in the US and UK.
Despite the risks being skewed to the downside, the minutes said ‘it was too early to form a comprehensive assessment of the impact on the UK of the heightened concerns about China, global growth and the associated financial market perturbations’. Stronger growth in the US and the Eurozone should benefit the UK, while robust growth in real incomes should sustain the solid domestic demand in the UK economy. However, due to weaker industrial output, the Bank lowered its forecast of Q3 GDP to 0.6% from 0.7%.
The pound jumped to 1.5447 dollars soon after the minutes but quickly fell back below the 1.54 level to around 1.5394 in late European session. The euro saw similar moves, dropping to 0.7242 against the pound after the release but bounced back to around 0.7277. Against the yen, the pound was settling around 186 yen after touching a high of 187.32.