Faced with the highest inflation in three decades, the Bank of England on Thursday raised rates for a second consecutive meeting. It was the first back-to-back move since 2004.
The decision was split. The vote was 5-4. Dissenters favored a 50bps move. For now, hawks will have to settle for 25bps, but the message was overwhelmingly hawkish.
The vote to commence balance sheet runoff via the cessation of gilt reinvestments was unanimous. The bank will engage in active selling of the corporate bonds it holds.
The BoE revised its inflation forecasts sharply higher. “Inflation is expected to increase further in coming months, to close to 6% in February and March, before peaking at around 7.25% in April,” the MPC said, noting that the projected peak is “around 2 percentage points higher than expected in the November Report.”
The figure (below) illustrates the scope of the problem.
So, despite being spectacularly wrong so far, the BoE expects the public to trust a new set of forecasts which claim for the Committee the kind of supernatural prescience one would need in order to project a macro variable three years into the future.
“One reason for [the expected decline] is that we think the impact of higher oil and gas prices will fade,” the bank said Thursday, adding that goods demand should slow and “production difficulties” should fade. “We expect inflation will be close to our target in around two years’ time,” the summary said, flatly.
The initial reaction in gilts was dramatic. Yields were cheaper by a dozen basis points at the short end. Money markets priced a 1.5% Bank Rate by September. That’s a significant pull-forward. This will invariably bleed into US Treasurys, at least for a day.
Although the BoE mentioned downside risks to inflation from energy and goods, the statement flagged upside risks from wages and reiterated that “some further modest tightening in monetary policy is likely to be appropriate in the coming months.”
It’s a good thing it’ll be “modest.”
Earlier Thursday, Britain’s energy regulator raised its price cap by a not-so-modest 54%. The read-through: Households may see a £700 per year increase in energy bills.
Central bankers in the developed world (ex- Japan) have decided to take aim at inflation by raising short term rates and in some cases trimming their balance sheets. It is a reasonable posture but it portends a lot of pain to come. As Albert Edwards, quoted by you has said (paraphrasing), it is when central banks go on an easing cycle that equities must beware. That will happen in the not too distant future.
I am curious to understand how the US equities markets might respond to effectively shutting down the ON RRP program first? It seems that if that happens, US banks would need to purchase about $1.6T in Treasuries – which could be from the Fed- therefore reducing their balance sheet.
If more liquidity is needed in the future, they could ramp up the overnight RRP program again.
Seems like a good place to start- but IDK.