Bank of England deputy casts doubt on market interest rate expectations

The Bank of England’s deputy governor for monetary policy has cast doubts on financial markets’ forecasts that UK interest rates will need to rise above 5 percent to curb inflation.

Speaking to an audience from Imperial College, London, Ben Broadbent unveiled preliminary internal BoE modeling on Thursday that suggested interest rates should rise much less than the current 2.25 percent, much less than forecast by the markets.

His words quickly lowered financial markets’ expectations of peak interest rates by 0.2 percentage point. This will benefit the government as it will help reduce the projected costs of servicing public debt in the forthcoming medium-term fiscal plan, to be announced on October 31.

Lower market rates would also lower mortgage costs, now averaging more than 6 percent for a two-year fixed deal, according to research this week from Moneyfacts, a financial information firm.

Broadbent stressed that the UK had to accept that it was poorer after the sharp rise in energy prices over the past year and that efforts to offset this – be it government aid, struggles for higher wages or price hikes to protect profit margins – are all would be inflationary and force the BoE to raise interest rates further.

But he expressed some doubts about the futures market, which predicted that the central bank would have to raise official interest rates to a peak of 5.25 percent in May next year. After he spoke, this dropped to 5 percent.

“Whether official interest rates should rise as much as is currently priced in financial markets remains to be seen,” Broadbent said.

The vice governor’s comments are unusual because the central bank rarely comment directly on whether the financial markets are interpreting its internal thinking correctly.

In this speech, however, Broadbent went further, publishing internal BoE modeling of the “optimal” interest rate response to bring inflation back from 10.1 percent in September to the 2 percent target. It looked at the rate hikes needed to offset the inflationary effects of the government’s energy price guarantee and the recent depreciation of the pound.

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The calculations showed that since the BoE’s August forecast, these government measures — excluding the unfunded tax cuts in the “mini” budget — would require additional rate hikes peaking at 0.75 percentage points.

Broadbent compared that increase to the market-expected increase of 2.25 percentage points.

While acknowledging that everyone should take this equation with a “heavy dose of salt,” and that the market had also moved in response to inflationary wage and price data, the vice governor used the example to question whether market forecasts were too high. goods.

“The chart serves to illustrate how significant the moves in the markets have been over the past few months,” he said, adding that raising interest rates to more than 5 percent would imply a major contraction in the UK economy. That would be more than the BoE deems necessary to bring inflation back to the 2 percent target.

Broadbent stressed, however, that no one in the UK could avoid the pain of higher oil and especially gas prices. “Import prices have risen significantly compared to the price of British production. This has inevitably depressed real incomes,” he said.

Finally, he warned that if people and businesses tried to withstand the effects of rising energy costs, it would benefit no one because inflation would remain high for longer and interest rates would have to rise further.

“It’s understandable that workers and businesses want compensation for these losses by raising wages and domestic prices,” Broadbent said. “Unfortunately, and at least collectively, these efforts will not make us better. The effect is that domestic inflation rises without ultimately affecting average real income.”

Additional reporting by Tommy Stubbington

Jacky

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