Inflation to top 3% says Bank of England, but only temporarily

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Economists said the Bank of England’s decision to keep interest rates on hold at 0.1% and bond purchases at £875bn underlines its dilemma over economic recovery versus rising prices.

“The central bank is caught between higher-than-expected inflation and encouraging activity data, and mounting uncertainty surrounding Covid-19,” said ING.

“But more importantly, the committee opted against offering any more concrete hints of future tightening.”

The Bank said inflation would rise above 3% as the UK economy recovers but this would be temporary and most of the bank’s Monetary Policy Committee voted to keep the current stimulus measures unchanged.

Departing member Andy Haldane, the Bank’s chief economist, was again the dissenter and voted to reduce the QE programme to £825bn.

The Bank said that since May, global growth had been stronger than expected.

Pricing pressures had picked up “reflecting strong demand for goods, rising commodity prices, supply-side constraints and transportation bottlenecks.”

It has revised up its expectations for second-quarter GDP by around 1.5% since its May meeting as restrictions on economic activity eased, so that June output was expected to be around 2.5% below its pre-COVID-19 fourth-quarter level.

But it said after a period of strong GDP growth and above-target inflation, both these will fall back.

And it added that the committee did not intend to tighten monetary policy until there was “clear evidence that significant progress is being made in eliminating spare capacity and achieving the 2% inflation target sustainably.”

ING.s economics team added: “The Bank of England’s latest message is a cautiously upbeat one, though it’s clear that policymakers are essentially in a holding pattern for the time being.

“Indeed the BoE’s latest statement borrows both from the ECB and Federal Reserve hymn sheet – from the former by emphasising against a premature tightening in monetary conditions, and from the latter by signalling it wants to see ‘significant’ progress before looking at removing stimulus.”

Ambrose Crofton, at JP Morgan Asset Management, added inflation might prove more than transitory and present a bigger problem in time.

“Our own view is that inflation will continue to rise well above the Bank of England’s target in the coming months and that not all of this will prove transitory.” 

Olivier Konzeoue, FX Sales Trader at Saxo Markets, added: “The MPC used similar rhetoric to that used by the US Fed of late, describing an expected peak in inflation in excess of 3% (versus 2.47% previously) as likely temporary in nature and flagged the uncertainty around the labour market outlook with close to 1.5mln people still receiving wages through the furlough scheme.

“This justifies pushing back a potential 15Bps (0.15%) rate hike to August 2022, instead of June 2022, in order to avoid undermining recovery by a “premature tightening in monetary conditions”.
 

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