Timing of first Bank of England rate hike still a guessing game

February 5, 2015

BA year and a half after Citi became the first major bank to pencil a Bank of England interest rate hike into their forecasts, nobody appears to be any more sure of when this actually will happen.

The Reuters consensus for the timing of policy tightening has bounced around from one quarter to another, with some of the biggest revisions among gilt-edged market makers — the large dealers in British government bonds — also coming in the past four months.

On Thursday, the BoE left Bank Rate steady at a record low of 0.5 percent, where it has been for six years.

Markets and economists have to wait for the quarterly Inflation Report and remarks from Governor Mark Carney next week for more clarity on when the first hike may come. But they may not get it.

From a consensus for Q2 2015 in a Reuters poll taken in January 2014, the prevailing view moved to Q3 2015 the very next month. Then it moved back to Q2 in March. From there it went to Q1 2015 in a poll taken last June. After staying there for nearly six months at a stretch, barring one consensus for Q2, it moved forward by a quarter in each poll conducted since mid-November.

For now, it has settled on the fourth quarter of this year.

Financial markets have been almost equally unsettled, sending the pound all over the map.

At the start of last year, with British 10-year government bonds yielding 3 percent and inflation at 2 percent, short sterling interest rate futures were pricing in a rate hike by year-end.

But rate futures markets now expect a hike only in 2016. In the meantime, inflation has slipped to 0.5 percent and is widely expected to turn negative soon.

Even ordinary Britons aren’t clear where inflation is headed, a recent Citi/YouGov survey found.

It is surprising then that forecasters are still expecting a hike any time soon.

Currently the U.S. Federal Reserve is the BoE’s only peer expected to tighten rates, around June of this year.

The European Central Bank, which oversees policy for Britain’s biggest trading partner, is embarking on a bond purchase programme starting next month that is expected to total more than 1 trillion euros to start.

Most others – including China, Canada, Mexico, Switzerland, Denmark, Russia, Turkey, India, Singapore and Australia – have shocked markets by easing policy as a slump in oil prices has eroded inflation.

So long as inflation continues to cool across the globe, the consensus for BoE policy tightening could follow markets and get pushed into 2016 or even be removed from forecast horizons altogether.

Michael Saunders at Citi, who was forecasting several BoE rate hikes in 2015, appears to be still clinging to hopes rates will rise some time soon.

“The MPC may want to signal that markets have pushed the timing of the first UK rate hike too far into the future,” he wrote in a note to clients on next week’s Inflation Report after the BoE left rates unchanged on Wednesday.

That is more than a full-year spread between his prediction last January of a first hike in the fourth quarter of 2014 to what Citi is saying now, February 2016.

Deutsche Bank’s UK economist George Buckley just recently pushed his prediction for the first hike back by nine months to the second quarter of 2016.

JPMorgan, RBC and ING have made similar changes to their forecast for the first BoE hike over the past few months.

This shows there is still as much doubt now over when interest rates will rise as there was in August 2013, when the BoE under Carney introduced “forward guidance.”

Deutsche’s Buckley says:

I don’t think forward guidance is particularly useful. When central bankers say anything, it is normally simply a reflection of what’s happening in the economic data. The Governor provided a number of indications on the timing of the first interest rate hikes but actually no one really knows when they need to go up. It’s a question of looking at the data and trying to understand whether that really suggests the need for a rate hike.

— With additional reporting by Sarbani Haldar and Hari Kishan

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