The moves by U.K. Chancellor will reduce the need for the Bank of England to act as aggressively. Having pencilled in a 100 basis-point rate hike in November, we now think that’s more likely to be 75bp. Markets are still expecting Bank Rate to peak at 5.2% next summer, albeit this pricing has been pared back since the fiscal U-turns. This leaves the Bank with a difficult decision: meet those expectations, and bake in what are now very uncomfortable mortgage and corporate borrowing rates. Undershoot investor expectations, and the pound could fall materially. But in practice, a weaker pound – and the extra imported inflation that might bring – is probably more desirable than the current strains that are starting to emerge as a result of ultra-high borrowing costs.
The challenge for policymakers will be to gradually talk down market rate expectations without causing abrupt pressure on the currency. Ultimately, we think a 75bp hike in November will be followed by another 50-75bp hike in December. We think Bank Rate will peak somewhere between 3.5%-4%.
- ING Developed Market Economist
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