Key Takeaways:
The Bank of England is expected to keep its key rate at 3.75% on Thursday but signal a readiness to raise borrowing costs should the Strait of Hormuz conflict fuel a persistent pickup in inflation.
The Monetary Policy Committee will hold the base rate for a fourth straight meeting, with all 70 economists in a Reuters poll forecasting no change. But the focus will be on the vote split and forward guidance, as the nine-member panel weighs the risk that higher energy prices feed through to wages and domestic prices.
"The situation is extremely fluid, and the risks certainly are we do indeed see a rate hike this year," said Ellie Henderson, an economist at Investec. "However, for now, I think the MPC are basing their decision off the fact policy is already in restrictive territory."
Hawks Huw Pill and Megan Greene are expected to vote for a quarter-point increase to 4%, and some economists see Catherine Mann joining them. The doves can point to softer headline inflation and cooling wage growth, with the Bank's own survey showing businesses expect wage increases to slow significantly this year.
UK inflation stood at 2.6% in June, down from 3% in February and well below the MPC's forecasts. Food inflation undershot the central bank's projections by 187 basis points, according to Deutsche Bank. That contrasts sharply with peers: eurozone inflation rose to 2.8% from 1.9% over the same period, while US inflation picked up to 3.5% from 2.4%.
Inflation Divergence Offers Limited Comfort
The reprieve may prove temporary. Brent crude traded near $98 a barrel Thursday, approaching $100 for the first time in two months, after Yemen's Houthis targeted Saudi oil tankers in the Red Sea and US strikes on Iran intensified. The International Monetary Fund has warned that energy buffers are becoming depleted as the closure of the Strait of Hormuz enters its sixth month.
"While our view remains for no hikes from the Bank of England, we are acutely aware that we removed the only rate hike from our view at a time when energy prices were falling," said George Buckley, an economist at Nomura. "Now that energy prices are rising sharply once again, so too are the risks that the MPC will be forced into a hike."
The last time the BoE faced a comparable energy supply shock was in 2022, when Russia's invasion of Ukraine pushed inflation above 11% and forced 14 consecutive rate increases. The current conflict has not yet produced a similar passthrough, but the MPC's updated economic forecasts, due alongside the decision, are likely to underscore the uncertainty.
Forward Outlook Hinges on Energy Path
According to median estimates in the Reuters poll, the first 25-basis-point cut will not come until at least July 2027, with a second expected in the fourth quarter. Eight of 70 respondents saw a rate increase this year, while four saw a reduction to 3.50%.
The European Central Bank left its deposit rate at 2.25% on Thursday but signaled a likely hike in September, with markets pricing 48 basis points of additional tightening by year-end. The divergence between the BoE's relatively benign inflation picture and the ECB's more urgent tightening cycle highlights how unevenly the energy shock is hitting European economies.
"If oil prices remain close to $100 per barrel over the summer, a September rate hike would move firmly onto the table, with another in the winter likely," said Thomas Pugh, an economist at RSM. The fragile state of economic growth and a tight labor market may be enough to keep inflation on simmer without the BoE needing to act, he added — but each day of squeezed energy supplies brings a hike closer.
This article is for informational purposes only and does not constitute investment advice.
