BoE Preview: 25bp Cut, Dovish MPR to Set Tone for Further Easing

Summary

• We expect the BoE will cut rates by 25bp this week, with an 8:1 vote split.
• The updated MPR projections will likely be much more bearish on the labour market and GDP, despite strong wage growth.
• Along with updated supply-side analysis, this should see inflation undershooting target by even more in the medium term than previously.
• We see potential for a near-term spike in CPI driven by one-offs, but the BoE will look through this.
• The above and the BoE’s apparent lean towards a base case of 100bp of cuts this year suggest Bailey could take a stronger dovish tone over market expectations.

Market Implications

• We remain dovish on the BoE and keep our long SFIZ5 and gilt steepeners.

BoE to Cut 25bp With More to Come

We expect the BoE to cut rates by another 25bp (to 4.50%) on Thursday. Their updated forecasts and the recent poor economic data should provide more room to sound dovish. We see a strong possibility that their updated forecasts project inflation decently undershooting target in the medium term.

Therefore, Bailey could more explicitly state 100bp of cuts is the base case, with room for more if the economy undershoots. In the voter mix, we expect an 8-1 repeat of November given the direction of recent data, albeit Mann is a big unknown.

We remain dovish on the BoE and keep our long SFIZ5 and gilt steepeners.

MPR Forecast Updates Likely Dovish

GDP Flat-lining – More Spare Capacity Ahead

The UK economy appeared to be in stagnation at the end of last year, significantly weaker than the BoE had forecast in November (Chart 2). This aligns with our belief the UK economy is far weaker than the market and MPC assumes.

Labour Market Loosening – BoE Can Look Through Wage Growth

The UK labour market is loosening faster than the November MPR predicted even in the (non-credible) official LFS data (Chart 3). That PAYE employment growth has fallen close to flat YoY as vacancies continue to reduce should be alarming, especially given the employer NIC rise will further suppress employment.

The latest DMP survey (also released Thursday) will probably support evidence of stagnating hiring. This MPR will also see the BoE update its supply-side expectations. They must account for higher working-age population projections, which should add to labour market loosening and so exacerbate the medium-term inflation undershoot.

Private, regular wage growth has significantly overshot the MPR expectation (Chart 4). But the BoE should not be too concerned given:

1. It was partly driven by a spike in health-sector back-pay (unlikely to be repeated).
2. The labour market continues to loosen.
3. The employer NIC rise in April is likely to dampen future total pay growth.
4. Wage-intensive services inflation remains capped.

As such, we think they will remain dovish on the labour market dynamics.

Inflation Could Spike Higher, But Likely Undershooting Target Further Out

Inflation is currently about in line with BoE estimates from November. However, the H1 data could see a strong upward shift on the back of one-off impacts. We have written on this extensively.

We think the BoE would look through such effects. And while they may revise up their near-term expectations to account for this, the more important medium-term projections are likely to increasingly miss versus target given the market pricing for bank rate (Chart 5).

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)