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Bank of England rate preview: how will the BoE react to rising inflation and easing Covid-19 fears?


MongiIG

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The Bank of England grows steadily more hawkish, but questions remain over whether rising inflation will force its head towards a tapering stage.

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Bank of England meeting: when and where?

The Bank of England (BoE) will commence their latest monetary policy announcement at midday, on Thursday 5 August 2021.

Tune in to IGTV’s live BoE announcement and analysis at 11:55 AM BST on Thursday in the IG platform.

Inflation concerns remain prevalent

Rising inflation has been a key concern for central banks with confidence fading that this above-target period is going to be transient in nature. Undoubtedly, the losses experienced by many companies throughout the world have increased the need for some to raise prices, with rising demand helping to justify those gains.

The latest inflation data available to the BoE highlights the fact that we remain on an upward trajectory, with the headline consumer price index (CPI) figure of 2.5% representing the highest level since February 2018.

That markets the second consecutive above-target CPI reading, which is likely to slightly turn up the heat on those MPC members that have viewed the rise as transitory.

 

CPISource: ONS

 

Looking at the inflation breakdown, we can see that much of the recent rise has been attributed to transport and housing costs.

Interestingly, transport costs have been heavily influenced by the rise in fuel prices over the past year, although second-hand cars have also provided one area of notable growth which may actually have a link to the rock-bottom interest rates.

While much of the demand seen over the course of the Covid-19 pandemic has come as people seek their own means of transport, that is expected to ease as vaccinations allow greater confidence to use public transport.

Vaccinations look to be working as Covid-19 cases subside

One key issue that will have raised concern amongst MPC members at last month’s meeting was the rapid rise in Covid-19 cases.

However, while the halving in Covid-19 cases over the past fortnight will be welcome, the committee will want to see a protracted move lower for deaths before they can say with confidence that the vaccine will help avoid the need for further economic restrictions.

Nonetheless, with cases and deaths typically exhibiting a two-week lag, evidence of a decline in deaths may come in the days around the BoE meeting. It is perhaps a little too late to gain enough confidence that the worst is over.

 

UK Covid-19 casesSource: data.gov.uk

 

On the purchasing managers’ index (PMI) front, we have seen both services and manufacturing surveys decline significantly, driving the composite reading down from 62.2 to 57.7 in July.

However, much of the weakness we have seen recently comes off the back of growing inventories difficulties as firms struggle to obtain materials. Meanwhile, the so-called ‘pingdemic’ has added to staffing troubles as the NHS Covid-19 app informs thousands of the need to isolate.

While the government has made adjustments that should alleviate some of those troubles, firms are clearly struggling to fill roles in a bid to take advantage of increased demand.

 

PMISource: Markit

 

What to look out for at the meeting

Recent hawkish tones from Andy Haldane and David Ramsden does point towards a split decision on tapering at Thursday’s meeting, but the remaining members are likely to hold strong to result in a 6-2 vote.

The breakdown of that vote on tapering will likely provide one key element that traders will be watching closely as a driver of volatility.

Tapering will be a key element of forthcoming meetings, and the ongoing work being done to lay out greater detail on how it will be undertaken could bring an area of interest.

There is no guarantee that it will be approached this meeting, yet the bank will likely have to provide a blueprint for tapering before too long.

Interest rates are unlikely to change anytime soon, with tapering the first concern. That can be seen by the fact that market pricing points towards a first rate hike in mid-2022.

Nonetheless, markets will be adjusting to any changes in this outlook given the decisions and commentary provided by Andrew Bailey and co.

 

BoE rate propabilitiesSource: Eikon

 

With Covid-19 fears seemingly easing, there is a good chance that the MPC will want to wait in a bid to understand whether the vaccine has truly mitigated much the risks for the UK economy.

Traders will be watching out for growth forecasts, although strong jobs data and weakening PMI figures highlight the fact that an upgrade is far from a given. With the furlough scheme winding down, there will also be some concerns over how the jobs market could look in the months ahead.

The rise in inflation is obviously a key concern for the bank, and markets will be keeping a keen eye out for the banks tone around whether they still this rise as being transitory in nature.

As we have seen some of the inflation pressures are down to factors such as energy which will be largely out of the bank’s control, while other drivers are likely to fade as things return to normality.

Where now for the pound?

EUR/GBP looks an interesting pair as we head into the meeting, with the pound weakening after a drive that took the pair into trendline support.

While there is a chance we could see a hawkish stance, there is a good chance we see further upside for the pair as it builds on this recent bounce. Should we see less than two members vote to taper, it could spark another rise for EUR/GBP.

However, it is worthwhile noting the direction of travel over recent months, with short-term upside likely to be sold into before long.

 

EUR/USD daily chartSource: ProRealTime
 
 
 
 Joshua Mahony | Senior Market Analyst, London | Publication date: Tuesday 03 August 2021. IG

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