The British government has confirmed it will trigger Article 50 to begin exiting the European Union on March 29th.


Despite rocking a touch on the news, sterling got off to a pretty good start on Monday (March 20th) as it climbed to a three-week high against the US dollar. Notwithstanding some relative softness in the greenback – the dollar index is holding around 4% off its recent 14-year highs as the Fed looks in no hurry to raise rates –  this reflected expectations that the Bank of England is moving closer to raising interest rates.

Tuesday’s CPI releases is expected to show inflation rising and even breaching the Bank of England’s 2% target. Given the impact of the weak pound the Monetary Policy Committee thinks it will “exceed the target materially by the summer”.

CPI rose by 1.8% in the year to January 2017, compared with a 1.6% rise in the year to December 2016. This was the fastest pace of price rises since June 2014. Food and fuel were the main contributors to the rise.

The BoE has a tough balancing act. It knows that raising rates to offset the effect of weaker sterling on inflation would mean “higher unemployment and, in all likelihood, even weaker income growth”.

But, members stress that “there are limits to the extent that above-target inflation can be tolerated”.

So are we close to a rate hike?

With inflation rising sharply, and patchy evidence on slowing activity domestically, several on the MPC think it would “take relatively little further upside news on the prospects for activity or inflation for them to consider that a more immediate reduction in policy support might be warranted”. 

This was and still is seen as a surprisingly hawkish stance from the Bank. A big leap in the CPI rate was starting to be seen as a precursor to some fairly heated debates between hawks and doves over when to raise rates.

Kristin Forbes, the outgoing hawk on the MPC, even voted for a hike.  She believes that inflation is rising quickly and “was likely to remain above target for at least three years”.  Weakness in the economy since Brexit has not materialises; the jobs market remains very strong with almost no slack; and a global reflationary trend means there is no reason to tolerate lower rates.

On the other hand, the other 8 members were more circumspect in their assessment of the positives since Brexit. Pay growth has remained “subdued” and there are signs that the squeeze in households’ real income growth was feeding through into spending.

And we just don’t know where Brexit is taking us. “The potential for uncertainty over future trading arrangements to affect materially economic decision making remained, posing a downside risk to the activity outlook, to which the Committee could respond if necessary,” said the minutes from last week’s meeting. With Article 50 definitely being triggered it would be a very, very bold statement by the Bank of England to hike, even if inflation is overshooting. 

The big risk for the MPC is, having come under criticism for cutting rates after the June referendum, to tighten again too quickly and face the prospect of having to then cut rates back down. Such a manoeuvre would hardly suggest the BoE has its calming hand on the tiller. 

Note about the inflation data: 

It’s important to note that this month for the first time the headline inflation rate will be based on the Consumer Prices Index including owner occupiers’ housing costs (CPIH).

CPIH rose by 2% in the year to January 2017, compared with a 1.7% rise in the year to December 2016.

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