BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide

(Bloomberg) -- The Bank of England would normally have reason to be laying the ground for another interest-rate hike, yet these are not normal times for the U.K.

With Brexit talks still deadlocked and the March departure date looming ever closer, the central bank is likely to have to sit on its hands until it gets more clarity. Officials have so far stuck to the line that “limited and gradual” hikes are needed in coming years, and economists see no change to the benchmark rate on Thursday.

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That means the focus will be on Governor Mark Carney’s press conference and the bank’s latest forecasts, even if the latter may need tearing up as soon as Brexit negotiations reach a conclusion.

Signs of how important the divorce is to the market fundamentals that underpin the BOE’s outlook came in the 24 hours before the decision. The pound surged and bets on the next rate hike got a jolt after U.K. Brexit secretary Dominic Raab said he’s hopeful a deal can be struck by Nov. 21, and the Times reported that Britain and the EU have reached a preliminary agreement to allow financial services companies to access the bloc.

The currency was then knocked back on Thursday morning when U.K. officials, speaking on condition of anonymity, said the Times report is unsubstantiated.

BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide

Investors are again pricing in a rate increase for November 2019, after pushing back their bets last week. Still, the odds on a May hike are yet to fully recover and stand at around 60 percent, from almost 90 percent earlier this month.

Data Picture

Since the August hike, economic reports have borne out the BOE’s arguments for action, with data suggesting expansion was the fastest in almost two years in the third quarter. There are also signs of a long-awaited pick up in wages, with pay growth rising the most in almost a decade.

BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide

Still, officials remain divided over how durable the pickup is. Deputy Governor Jon Cunliffe has warned that the outlook for wages may actually be weaker than the central bank predicted five months ago, while chief economist Andy Haldane suggested the latest gains could herald a “new dawn for pay growth.”

Data on Thursday also suggest all may not be rosy -- a report showed manufacturing growth slumped to the lowest since the aftermath of the Brexit vote.

What Our Economists Say...
“A life without Brexit would be blissfully simple for the BOE. With negotiations showing little progress, the central bank is likely to look beyond the positive data flow for the time being. Assuming a deal is reached, a rate hike will probably come in May.”
-- Dan Hanson, Bloomberg Economics. For full preview, click here

Brexit Impact

BOE policy makers agree that the shape of a Brexit deal could rewrite their outlook. Thursday’s new forecasts, based on the average of a range of scenarios toward a smooth outcome, will almost certainly need to be revised. The impact on sterling alone would translate to about a 1 percentage point difference a year in the BOE’s inflation forecasts , according to Bloomberg Economics.

BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide

Lower Forecasts?

Even without taking the latest impasse in Brexit negotiations into account, officials may still be on course to lower growth forecasts for the next two years. None of the 15 economists surveyed by Bloomberg expect the central bank to raise its forecasts for growth in 2019 and 2020 -- currently at 1.8 percent and 1.7 percent -- while almost half see the outlook being cut.

BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide

Carney’s Conference

With uncertainty reigning, the governor will doubtless face plenty of questions on Brexit.

The Canadian’s views have already been weaponized in the vitriolic debate surrounding the U.K.’s exit. He made headlines on the day of the BOE’s September meeting by briefing the Cabinet on possible worst-case economic scenarios, while lawmakers have already lined him up to assess any deal reached by the government.

The BOE governor could also be asked about his own career choices. Since the last Inflation Report, it’s been announced that he will now stay at the BOE until January 2020 -- from June 2019 previously -- to help see the nation through what Chancellor of the Exchequer Philip Hammond said could be “quite a turbulent period for our economy.”

BOE Rate-Hike Plans Are Hamstrung by Brexit: Decision Day Guide