The Bank of England (BoE) has kept the benchmark interest rate unchanged at a record-low 0.50% since March 2009. Accommodative policy has become the norm as the global economy still feels waves from the most recent financial crash. However, with the Federal Reserve predicted to hike the overnight cash rate before 2016, the British central bank is dragging its heels. Whilst domestically the UK is showing signs of a robust and healthy recovery, the global economic slowdown – led by emerging markets and the resultant slump in commodity prices – has made conditions for normalising monetary policy difficult.
Bank of England (BoE) Governor Mark Carney was drafted in after having a successful period as Governor of the Bank of Canada (BOC). Since replacing Mervin King, Carney has kept policy ultra-accommodative with domestic labour market conditions proving too poor for families to deal with tighter policy. However, even after the employment sector began to perk up, policy remained unchanged. This was due to unforeseen bearishness in the commodities market, including a dramatic plummet in oil prices. With the Eurozone struggling against weaker demand for commodities from China, trade between the UK and the Eurozone dragged. This caused British growth to slow and inflationary pressure to diminish.
The absence of inflationary pressure is now the principle reason for the BoE opting to keep rates on hold. The most recent policy meeting, which occurred on December 10th, saw policymakers highlight the low price of oil as one of the main reasons for avoiding tightening policy. This is because low energy prices have acted like an unwanted tax cut and had a detrimental impact on price pressures which have hovered around 0.0% for some time. Some policymakers also reiterated concerns about the sluggish pace of wage growth.
Back in November the British central bank published its quarterly inflation report alongside its meeting minutes. In the report policymakers stated that they expect inflation to remain well below target throughout 2016. Given that the absence of price pressures has been the principle reason for not tightening policy, this report suggests that the Monetary Policy Committee (MPC) will continue to vote to keep the cash rate at a record-low until 2017.
Another significant factor likely to keep policy accommodative until 2017 is the planned referendum on Britain’s membership in the European Union. Tightening policy ahead of this crucial vote could prove dangerous if the UK opts to leave the EU given the uncertainties regarding foreign investment and the value of the Pound. With that being said, however, policymakers may wish to make sure policy is tighter ahead of the vote to leave more wriggle room to react to the ‘Brexit’ referendum outcome. Whatever happens, policymakers are likely to err on the side of caution until price pressures climb, oil prices rise and wage growth accelerates – a circumstance which may limit the Pound’s strength against peers like the Euro and US Dollar.
After Thursday’s BoE decision the GBP/EUR exchange rate remained trending above 1.3850 while the GBP/USD currency pair was left trending in the region of 1.5180.