Andrew Bailey, the governor of the Bank of England, has warned markets that rates may need to rise more than previously expected. Addressing an audience in Washington, he highlighted inflationary pressures and a more aggressive approach to interest rates in the coming months. This comes amidst the political turmoil sweeping through the UK, which saw Jeremy Hunt installed as the new Chancellor of the Exchequer.
Meeting of minds
While we are not privy to the discussions between the Chancellor and the governor of the Bank of England, Andrew Bailey described this as a “meeting of minds”. Amidst concerns of mixed signals, it seems as though the Bank of England will refrain from any market interventions until the government’s tax and spending plans are announced on 31 October. This appears to be at odds with a recent statement suggesting that the bank would act as and when appropriate. Describing this as the “correct sequence” of actions, does this leave the pound at the beck and call of markets until 31 October?
Interest rate rises
On 22 September, the Bank of England increased base rates by 0.5%; they now stand at 2.25%. Before the recent statement in Washington, markets were split between a 0.75% and 1% increase in November and the same again in December. However, in light of the update from Andrew Bailey, there are concerns the next interest rate rise could be even more aggressive.
A few weeks ago, the consensus was that UK base rates would hit 3% by the end of 2023. However, the latest analysis suggests that base rates could be as high as 6% by the end of next year. Indeed, they could be more than 4.25% at the end of 2022 if the Bank of England decides to take a more aggressive approach than the markets expected.
As the fallout from the government’s mini-budget continues, the previous Chancellor’s refusal to let the Office of Budget Responsibility (OBR) review his budget before publication is now notorious. In a subtle dig at Kwasi Kwarteng, Bailey suggested that “flying blind is not a way to achieve sustainability”. Consequently, Hunt and Bailey appear to be singing from the same hymn sheet, while Liz Truss may now be Prime Minister in name only.
Further U-turns to come?
Again, in direct conflict with recent comments by Truss, Hunt has readied the markets for a potential increase in taxes and a reduction in public spending. We know there is still a multi-billion pound hole in the budget, and difficult decisions will need to be made in the short term.
Markets holding their breath
Hunt’s appointment was seen by many as a “safe pair of hands” to steady the ship. However, even in the early days, he seems to be leading the way, with the Prime Minister following. With the Bank of England unlikely to intervene in markets until 31 October, when the government will set out its new tax and spending plans, could sterling be at the beck and call of the markets again?