Here’s one question we never thought we’d ask in 2016: Is the Bank of England going to cut interest rates?
With traders starting to price in looser policy at the BOE and market expectations for the first increase in borrowing costs since the financial crisis pushed back to 2018, questions are shifting from how long officials will sit tight to whether the next move might even be a reduction. The Bank of Japan’sdecision to introduce negative rates last week prompted renewed speculation about whether a similar move in the U.K. could ever be possible.
“It’s not crazy to think the BOE might cut rates, but with economic conditions being reasonably solid, I genuinely don’t see why you would want to do that,” said Peter Dixon, an economist at Commerzbank AG in London. “I think it’s overdone. We have a market which is pricing in the worst-possible economic scenario for everywhere.”
Investors will watch for any signals from Governor Mark Carney when he presents the central bank’s latest economic forecasts on Thursday. He’s likely to downgrade the near-term growth and inflation outlook amid a weakening global economy, indicating U.K. borrowing costs aren’t moving higher from their record-low 0.5 percent any time soon. Data on Wednesday showed confidence at U.K. services companies fell to the lowest in three years last month.
With the outlook darkening market expectations have undergone a dramatic shift in the past month and the short-sterling curve now implies a 25 basis-point rate increase in the second quarter of 2018. As recently as Jan. 4, traders saw liftoff at the BOE taking place in November 2016. Forward contracts are below 0.5 percent until the second quarter of next year.
Markets currently price in about a 30 percent probability of a BOE rate cut over the next 12 months, according to Morgan Stanley economists including Jacob Nell and Melanie Baker in London.
“This is difficult to justify,” they wrote in a note to clients. “We suspect that the current pricing is driven more by broader expectations that developed market central banks will have to ease more, so the pricing for the Monetary Policy Committee may remain rich for sometime, regardless of domestic fundamentals.”
The policy maker most likely to start calling for loosening may be Chief Economist Andy Haldane. In November, he said officials should be ready to “move off either foot depending on which way the data break.”
On Tuesday, two former BOE policy makers — John Gieve and Marian Bell — expressed doubts about the chance of a reduction, saying things would have to deteriorate a lot more before such a move would be justified.