Bank Rate unchanged in May, but a June cut looks possible

The Bank of England today left the Base Rate unchanged at 5.25%, as was widely expected; however, two committee members voted for a cut. External Monetary Policy Committee (MPC) member Swati Dhingra has voted for a cut in the last three meetings, and was today joined by Deputy Governor Dave Ramsden, an internal Bank of England (BoE) rate setter. This shows broadening support for easing policy, including from within the Bank.

BoE also released its latest forecasts, and the accompanying press statement notes:

“CPI inflation is expected to return to close to the 2% target in the near term, but to increase slightly in the second half of this year, to around 2½%, owing to the unwinding of energy-related base effects.”

It subsequently adds:

“Conditioned on market interest rates and reflecting a margin of slack in the economy, CPI inflation is projected to be 1.9% in two years’ time and 1.6% in three years”.

The MPC has a 2.0% inflation target, but allowed 100bps latitude either side, i.e. a 1.0% to 3.0% band. The forecasts above point to the UK moving into a period where inflation is under control, allowing the Bank of England to switch to supporting growth via rate cuts.

Recent months have seen expectations on interest rates seesaw, as rising inflation in the US has reduced the likelihood of the Federal Reserve cutting rates any time soon. Initially the financial markets assumed the Bank of England would choose to track the Fed, and pricing for sterling interest rate swaps shifted accordingly. However, the pound has come under pressure against the US dollar lately as the financial markets have changed their outlook, and priced in the Bank of England cutting rates sooner than the Federal Reserve. In part, this is because inflation in the UK is not picking up, as is the case in the US. Also, while the US labour market remains warm, in the UK there are signs of weakness; such as a rising unemployment rate and falling job vacancy numbers.

We believe the Bank of England could now cut the UK Base Rate by 25 bps in June or July to 5.00%. The impact of rate cuts tends to drip through to the economy over a 9 to 24 month period, so we would not expect any rapid improvement of the finances of consumers or firms; although the news of a cut will improve sentiment in the short-term. However, we believe a rate cut, when coupled with signs the economy strengthening, could mark the start of a new property market cycle this summer, as investors move to take advantage of lower prices, cheaper debt and an improving outlook for real estate.

In the residential market, house price growth having rebounded in late 2023 / early 2024 on falling mortgage rates, softened in April following higher rates in recent months. We believe a cut in the Base Rate in early summer – traditionally a busy period for the market – would lead to sustained growth for house prices.