The Bank of England has announced a reduction in its base interest rate by 25 basis points to 4.75%, following an 8-1 vote by the Monetary Policy Committee (MPC). This move aligns with market expectations and aims to maintain restrictive monetary policy until inflation risks further diminish.
The MPC focuses on achieving a 2% inflation target by supporting economic growth and employment, employing a medium-term and forward-looking approach. Recent meetings concluded with a decision to adjust the bank rate, indicating progress in reducing inflation after external shocks subsided. However, domestic inflation pressures remain slowly diminishing.
Despite a decrease to 1.7% in the September Consumer Price Index (CPI), it is expected to rise to around 2.5% by the year's end, mainly due to the fading impact of weak energy prices. Service sector CPI inflation has fallen to 4.9%. The annual growth rate of regular weekly wages in the private sector has been declining, but it stayed at a high level of 4.8% in the three months ending in August. Overall GDP growth is forecasted to slow to a quarterly average of about 0.25% for the remainder of the year.
The MPC believes the labor market remains relatively tight despite signs of easing. Their monetary policy guidelines aim to address residual inflation pressures to achieve the 2% target sustainably and timely. Several scenarios have been considered to assess factors affecting inflation persistence, detailed in the November monetary policy report.
In the report, three scenarios were explored: a rapid decrease in inflation persistence as global inflation shocks subside, a possible period of economic weakness needed for normalization, and structural changes in wage and pricing behaviors affecting inflation persistence. The pace of removing restrictive monetary policy may vary according to these scenarios.
The latest economic activity and inflation forecasts are based on the second scenario, expecting CPI inflation to return to the 2% target in the medium term. This assumes forward rates from the last 15 days, with domestic price and wage pressures easing as economic capacity becomes more apparent.
The autumn budget measures in 2024 are projected to boost GDP by approximately 0.75% above the August forecast within a year, though they could elevate CPI inflation by 0.5 percentage points during peak inflation times. This reflects both indirect impacts of reduced supply surpluses and direct budget effects.
Uncertainty persists in the labor market's outlook, with wage growth exceeding traditional predictive relationships. The inflation impact of budget announcements will depend on the extent and speed of passing these higher costs to prices, profit margins, wages, and employment.
The committee's decision to lower the bank rate to 4.75% reflects ongoing progress in disinflation efforts. While gradually removing policy restrictions is deemed suitable based on evolving evidence, maintaining restrictive monetary policy will be necessary until inflation risks sustainably decline to the 2% target in the medium term. The committee will closely monitor inflation persistence risks and decide on appropriate policy restrictions at each meeting.
