Markets on tenterhooks: Reaction to BoE holding interest rates

Mark-Carney-700x450.jpgMarkets will remain on tenterhooks after the Bank of England decided to maintain interest rates, when a cut was widely expected.

The MPC voted by a majority of 8-1 to maintain interest rates at 0.5 per cent, with one member, Gertjan Vlieghe, voting for a 25 basis point cut. The committee also made no moves on QE.

Ahead of the rate decision markets were pricing in an 80 per cent chance of a interest rate cut, with many expecting the central bank’s QE programme to resume too.

The move “has caught markets on the hop”, says Russ Mould, investment director at AJ Bell, with the FTSE 100 seeing a 1 per cent gain erased on the announcement.

Ben Brettell, senior economist at Hargreaves Lansdown, says that BoE governor Mark Carney appeared to have “backed himself into a corner” on a rate cut, following his speech after the referendum.

“So strong were his hints that looser monetary policy was on the way, that the market had come to fully expect a 25 basis point cut today,” he says.

Michael Metcalfe, head of global macro strategy at State Street Global Markets, says: “There are two surprises here. The first is that interest rate markets had forecast more than a 70 per cent chance of a cut. But the bigger surprise is the second one, namely that the Bank of England was ready to disappoint market expectations so soon after the Brexit vote.

“While a rate cut can still come at the next meeting, the delay hints at concern about the inflationary impact of sterling weakness and some uncertainty as to how rapidly the economy will actually slow.” 

Jeremy Cook, chief economist at World First, says it would have been “very unwise” for the Bank to cut interest rates before any firm data was released on the impact of Brexit.

“This is a classic example of keeping ones powder dry. We have had almost no post-Brexit data and while inflation may move higher courtesy of a weaker pound and growth will likely take a hit, what is a 25bps cut going to do in the short term?

“Carney and the MPC have never been fans of acting for acting’s sake despite being one of the strongest advocates of financial disruption as a result of a vote for Brexit.”

Brettell agrees, adding that “to an extent the Bank is guessing here”.

“There has been no hard economic data since the Brexit vote to indicate how bad any slowdown might be. Survey data shows business and consumer confidence have taken a severe knock. However, the preliminary estimate of Q3 GDP isn’t due until 27 October, so it is easy to see why the MPC might want to wait until a clearer picture emerges before taking any action,” he adds.

All eyes are now on the Bank’s August meeting, with the MPC saying it will likely move on interest rates in August.

“Markets will doubtless begin to look ahead to the MPC meeting scheduled for 4 August to discover the Bank’s next move, in the knowledge that cheaper money has historically been good for stocks in particular,” Mould adds.

Brettell adds that more QE could also be on the horizon in August.

“Interestingly the minutes appear to open the door to more QE, noting that ‘the precise size and nature of any stimulatory measures’ is yet to be determined. Could this be a hint that some members favour measures over and above an interest rate cut?,” he says.

However, Alex Dryden, global market strategist at JP Morgan Asset Management, says the effect of that may not be dramatic.

“The reality is that the potential benefits of looser monetary policy are likely to be limited. Interest rates are already at historical lows with little room for cuts.

“Some fiscal stimulus would be welcomed and the newly appointed prime minister, Theresa May, seems open to the idea. The goal of reaching a budget surplus by 2020 has been abandoned but with the government running a deficit of 4 per cent, the scope for fiscal expansion may also be limited.”