The BOE Is Fast Running Out of Excuses Not to Cut Interest Rates

(Bloomberg) --

Add a shocking slump in retail sales to the list of reasons why the Bank of England may cut interest rates in less than two weeks.

Instead of showing evidence of a much-anticipated post-election bounce, the release exposed how British shoppers, the mainstay of growth the past few years, reined in spending during the crucial Christmas season. The pound duly fell, and markets signaled a rate cut is all but priced in.

With precious few data releases before the decision, a string of weak data and dovish comments from policy makers have dramatically shifted the narrative. Whereas once Governor Mark Carney was expected to hold fire, now he’s seen possibly going out with a bang in his final rate-setting meeting as governor.

While private surveys have hinted at a revival in sentiment since Boris Johnson’s resounding Dec. 12 victory, the hard data paints a less benign picture. Inflation slowed to a three-year low and retail sales extended their worst run on record. Before that, economists were suggesting the reduced uncertainty could boost the economy and investors put the prospect of a rate cut at any point in 2020 as a coin toss.

With markets now pricing in about a 75% chance of a move on Jan. 30., next week’s Purchasing Managers’ Indexes are increasingly seen as the final hurdle for a cut. Last year, Carney said such surveys don’t closely reflect what’s actually happening in the economy.

In the PMI data, “MPC members will be looking for a return to levels that have prevailed in 2018 and early 2019 to seriously consider keeping rates on hold,” said Valentin Marinov, head of G10 strategy at Credit Agricole. “Anything less than that should leave a rate cut firmly on the table.”

Some may argue there’s no need to move so fast and that it’s best to hold off for a bit to see how things settle after the political turmoil of 2019. It may also be worth waiting until after the government’s March 11 budget, when a significant fiscal boost is likely.

Others have argued for a so-called risk-management strategy. Policy maker Michael Saunders has said it’s right to move immediately because even if a cut proves to be the wrong step, it can easily be reversed. The risks of waiting are far greater, in his view.

What Our Economists Say:

“Whether the Bank of England cuts interest rates on Jan. 30 now hangs in the balance and makes the PMI survey next week a make-or-break data point.”

-- Niraj Shah, Bloomberg Economics. For the full U.K. REACT, click here

The spotlight on BOE policy at the start of 2020 is marked contrast to most of last year, when the Brexit deadlock left Carney and his eight fellow Monetary Policy Committee members on the sidelines. While two officials started a push for a cut in November, a move a wasn’t expected to come until much later in the year, if at all.

In the minutes of their December meeting, held a week after the election, most officials signaled they would focus on the next phase of Brexit negotiations, saying it was to early to tell whether Johnson’s election win will improve sentiment.

That outlook appears to have quickly changed. In his first major speech of the year, Carney said the MPC has plenty of firepower to aid the economy if necessary, and said “much hinges on the speed with which domestic confidence returns.” Meanwhile, Saunders said the economy needs an aggressive injection of stimulus to avoid a prolonged period of below-target inflation.

Others signaled they were looking at the data, with Silvana Tenreyro saying she may support a rate cut in the next few months if sluggish global growth and Brexit uncertainty persist, and another member, Gertjan Vlieghe, saying he’d need to see an improvement to justify waiting to cut.

Still, many rate-cut skeptics point to a a poll of chief financial officers by Deloitte, which showed business optimism had reached a record high and house prices strengthening.

--With assistance from Greg Ritchie.

To contact the reporters on this story: David Goodman in London at dgoodman28@bloomberg.net;Jill Ward in London at jward98@bloomberg.net

To contact the editors responsible for this story: Paul Gordon at pgordon6@bloomberg.net, Brian Swint

©2020 Bloomberg L.P.