By Jason Penhalagon
The Bank of England (BoE) is signaling a careful stance on interest rates due to persistent inflation in the services sector. However, despite this caution, several rate cuts are expected, although they may not happen as quickly as some anticipate. The UK might not reduce rates as aggressively as the United States this year, but this gap in policy may not last long.
Comparing the BoE to the US Central Bank
Investors are considering the possibility that the Bank of England could take a different approach compared to the US Federal Reserve. Current market projections indicate that UK interest rates could remain about 50 basis points higher than those in the US over the next two years. There is also a belief that the UK will see fewer overall rate cuts in the near future.
This thinking is driven by the contrasting signals from the two central banks. In recent weeks, the US has been more open to cutting rates, while the UK remains more cautious. Historically, such differences are not uncommon. For example, between 2016 and 2019, while the US was adjusting rates through hikes and cuts, the UK kept its rates mostly unchanged. A similar trend was also seen in the early 2000s.
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The current situation is primarily focused on the high inflation levels within UK services and wage growth. These factors are raising concerns that the BoE may be more limited in how much it can lower rates. Additionally, there are worries about whether the UK labor market will need to undergo more challenges to bring inflation down or if inflationary pressures in wages and prices have changed permanently, making it harder for the BoE to meet its goals.
The Outlook for Interest Rate Cuts in the UK
Despite these concerns, the data suggests that the Bank of England could accelerate its rate cuts towards the end of the year. Over the past two years, the UK labor market has cooled. While this is largely due to an increase in the supply of workers rather than job losses, it still puts downward pressure on wage growth.
The latest surveys indicate that businesses are now less likely to raise wages compared to six or twelve months ago. This also extends to pricing strategies, where companies seem to be adjusting their prices less frequently. These trends suggest that inflationary behavior may not have shifted permanently, as some have feared.
While the BoE is not expected to lower rates in September, there is a growing belief that rate cuts will pick up speed by November. By mid-2025, it is anticipated that the Bank Rate could fall to around 3.25%, which is lower than current market forecasts.
Economic Performance and What It Means for Rate Cuts
The UK economy has performed better than expected in recent months. Since December of last year, the country’s GDP has grown by 1.5%, which is a stronger performance than many of its European neighbors. This growth is partly linked to improvements in real wage growth, which has boosted consumer spending power. However, some of the factors driving the economy’s recent performance are more difficult to explain.
Despite this positive momentum, most analysts expect the economy to return to a more typical growth rate of around 0.3% to 0.4% in the second half of the year. This moderate growth will likely play a role in the BoE’s decision-making process when it comes to future interest rate cuts.
Final Thoughts
In conclusion, while the Bank of England may take a more cautious approach compared to the US Federal Reserve, significant rate cuts are still expected over the next year. The BoE’s focus on managing inflation will influence how quickly these cuts take place. For now, markets can expect a gradual shift in monetary policy, with the potential for more accelerated changes later in the year.
Jason Penhalagon, the author, is an economist and freelance journalist.
