After a long period of high inflation, the Bank of England is finally keeping its 2% inflation target firmly in its sights.
The central bank said on Thursday it expects inflation to reach its target within two years and fall further after that, as policymakers move to cut interest rates.
A majority of the bank's nine-member rate-setting committee voted this week to keep interest rates unchanged at 5.25%, the highest level since early 2008 and the first time at that level in nine months. However, two members voted in favor of the rate cut, compared to just one member at the previous meeting in March. Governor Andrew Bailey said it was too early to cut interest rates this week, but added that slowing inflation was “encouraging”.
Recent inflation has been in line with expectations, suggesting that we are returning to more normal times, at least compared to the highly unusual times of a global pandemic and major war in Europe. It shows,” he said. Bailey said at a press conference.
Policymakers are waiting for more data to determine whether they are “sufficiently confident” that inflation is on track before cutting rates.
By the time the central bank next meets in June, policymakers will have more economic information, including two months' worth of inflation and labor market reports.
“The possibility of a June bank rate change is not ruled out and is not a fait accompli,” Mr Bailey said.
Investors have recently said they expect the Bank of England to cut interest rates in August and one more before the end of the year. Expectations for a rate cut in June increased after Thursday's announcement, with markets suggesting the probability of a rate cut being around 50%.
The central bank expects inflation to be around 2.5% for most of the next 18 months. But the central bank predicts inflation will fall to 1.9% in early 2026 and 1.6% three years later. Inflation is well back from its recent peak of over 11% at the end of 2022, but the central bank is wary of prematurely declaring victory.
Like many other central banks, the Bank of England is trying to decide between cutting interest rates as inflation slows towards its target and not easing monetary policy too much due to the risk of a resurgence of inflationary pressures. I'm trying to find a delicate balance.
The US has issued a potential warning. The Fed is expected to hold off on cutting interest rates as data shows price pressures remain strong in the United States. Consumer prices rose 3.5% in March from a year earlier, higher than economists expected. But across Europe, there is growing confidence that high inflation will end and that interest rate cuts can support struggling economies. On Wednesday, Sweden's central bank cut interest rates, and European Central Bank policymakers said they expected to do the same next month.
The UK is in a difficult position in between. When the April inflation rate is released in two weeks, it is expected to show that price increases have slowed to the central bank's 2% target, due to lower household utility bills. This will be down from 3.2% in March. But the Bank of England is treading cautiously.
Some aspects of inflation remain relatively challenging. Average annual wage growth and service inflation were both 6%. For some policymakers, this level remains too high to be confident that inflation will slow to 2% sustainably.
“We're not out of inflation yet,” said Tera Arras, director of research and economics at McKinsey & Co.'s UK and Ireland office and a former civil servant economist. He said he expected inflation to fall further this year but to be “very volatile.”
“We're going to end up in a situation like the United States, where there's no longer a line in the sand,” Alas said of the decline in inflation. “It's going to go up and down, up and down, but I think it's probably at a lower level than in the United States.”
All of this is against the backdrop of lackluster economic growth. The central bank predicted Britain's economy would grow by just 0.5% this year and 1% next year. Much of the increase is due to population growth. At the same time, consumer spending is expected to support economic growth, with average wages rising faster than inflation and employment levels remaining relatively strong, the central bank said. But other factors will also weigh on the economy, including curbs on government spending and high interest rates that inhibit investment and lending.
The National Institute of Economic and Social Research said Thursday that the central bank will wait until August to start cutting interest rates, then cut rates again this year, twice next year, and then gradually decline until they settle at 3.25. percent.
Paula Bejarano Calvo, an associate economist at the institute, said central bankers' caution is “reasonable,” given that there remains a risk that inflation will rise further due to upward pressure on prices, including from the services sector. ”
