The Bank of England has cut interest rates by 0.25 percentage points to 4.75%, as expected by financial markets in advance of the meeting, with eight members of the nine-strong monetary policy committee voting for a cut. Making its decision, the central bank noted continued progress in slowing inflation, with the most recent headline CPI number dropping below target in September to 1.7%.
“Monetary policy has been guided by the need to squeeze remaining inflationary pressures out of the economy to achieve the 2% target both in a timely manner and on a lasting basis,” it said.
This latest move shows the Bank’s continued “slow and steady approach”, says Morningstar’s European market strategist Michael Field.
Still, the recent Oct. 30 Budget has made the rate-cutting trajectory more uncertain heading into 2025 because the Bank of England now forecasts that new fiscal measures will add 0.50 percentage points to CPI and boost GDP by 0.75 percentage points. Even before the Budget measures, inflation was expected to rise again into 2025 because of tougher comparisons with 2023, after dropping below the 2% target in recent months.
Fixed-income markets are now pricing in heightened UK government spending being inflationary, forcing the Bank of England to slow the expected path of rate cuts. Gilt yields across the curve have risen sharply since last week on the taxation, spending and debt plans of the new government. Some £40 billion on tax increases are now slated, while the new chancellor has changed debt rules to allow higher government spending.
November’s Bank of England cut is the second rate cut in the UK loosening cycle, after the decision in August 2024. Other European central banks such as the ECB, SNB and Swedish Riksbank have already reduced rates multiple times this year. The Bank’s move comes ahead of the Federal Reserve decision tonight, when the US central bank is forecast to cut rates by 0.25 percentage points.
In the accompanying statement, the Bank repeated the mantra that rates cuts will be gradual and that “monetary policy will need to continue to remain restrictive for sufficiently long until the risks to inflation returning sustainably to the 2% target in the medium term have dissipated further.”
Where Next for UK Interest Rates? And Are Bond Markets Wrong?
Before this latest announcement on rates, financial markets had put a 97% probability on a rate cut today and a 32% chance of a cut in December, the last meeting of 2024. Markets, as indicated by overnight index swaps, put the February meeting as the next likely time for a cut, assigning a 73% probability.
“The market is pricing in another 0.75% cut over the next 12 months, something that seems eminently achievable, all things being equal,” Field says.
But the timeline for future cuts has changed significantly over the past fortnight, says James McManus, chief investment officer at wealth manager Nutmeg. “We expect the bank will remain data dependent, but recent events will likely make policymakers think twice about the cadence of the rate cutting cycle.”
Zara Nokes, global market analyst at J.P. Morgan Asset Management, says the recent Trump victory should also make the Bank cautious going into 2025, especially with talk of tariffs and protectionism in the air.
“The UK may be vulnerable given the openness of its economy. For these reasons the Bank should be very wary of giving concrete forward guidance on the pace of further cuts. In our view, with the underlying dynamics of the domestic economy pointing to inflation lingering for some time, the Bank should resist cutting too quickly.”
The Bank of England has a tough job weighing up the impact of the Budget, especially as it added extra costs to employers in the form of higher National Insurance contributions, says Shamil Gohil, portfolio manager at Fidelity International. He also notes the potentially inflationary impact of Trump tariffs, which argues for caution on the Bank of England’s part.
Where Will Interest Rates Settle?
Inflationary pressures in the UK jobs market remain a worry for the Bank, says Daniel Mahoney, UK economist at Handelsbanken, and that uncertainty will feed into interest rate and inflation forecasts.
This means that the “terminal rate”, where rates will end after the current rate-cutting cycle, is now higher than before.
“Following an inflationary Budget and the prospect of a further inflationary impulse from developments in the US, we have revised our interest rate forecast and are now predicting fewer interest rate cuts over the coming 18 months. Our current projection is for there to be only a further four interest rate cuts between now and 2026, with rates settling at 3.75%,” Mahoney adds.
This will have implications for gilt yields, mortgage and savings rates, as well as the relative attractiveness of equity income yields in 2025.
We’ve looked at what the Budget means for interest rates and gilt yields in this piece. With yields rising since the Budget, financial markets are expecting the Bank to go more slowly in upcoming meetings. But could the markets be wrong?
Sam Jochim, economist at EFG Asset Management, expects rate cuts every other meeting, with February being the next most likely month. But this perception of “slow and steady” could still change.
“As time passes and uncertainty regarding the impact of the Budget fades, it is possible the Bank does speed up the pace of rate cuts given recent positive developments in inflation and labor market data. This is a possibility not currently priced in by markets.”
Matthias Scheiber, global head of multi-asset portfolio management, Allspring Global Investments, is taking a more “glass half full” approach than markets are currently pricing in: “With the BoE more careful we expect more interest rate uncertainty shorter-term though the longer-term outlook for UK gilts remains constructive as both growth and inflation continue to cool.”
Will UK Inflation Now Rise Again?
The Bank of England meeting this week involved an element of catch-up; there was no monetary policy meeting in October, so the last official announcement was on Sep. 19, when interest rates were held. After that, the next interest rate meeting is in December, and the first of 2025.
Since that meeting, we’ve had the Budget on Oct. 30 and a weaker-than-expected inflation reading for September, in data released on Oct. 16.
In that October release, the Office for National Statistics said CPI increased by 1.7% year on year, against forecasts for a 1.9% rise. Data for October will be released on Nov. 20, when CPI is forecast to have risen by 2.2%.
Among many other economic forecasts by the Office for Budget Responsibility unveiled at the Budget, inflation predictions stood out.
Not only were these higher than the March 2024 report, which was produced for the last Conservative Budget, they were higher because of the “direct and indirect impact” of the chancellor’s plans. Average CPI for 2025 is now expected to be 2.6%, compared to forecasts for 1.5% just eight months ago. Inflation forecasts remain above target in 2026, 2027 and 2028, because of persistent wage growth and fiscal loosening.
UK fiscal and monetary policy is separate because of the Bank of England’s independence from central government, a separation that occurred in 1997. Since then, the government has had no official influence on interest rates.
At the same time, the new government’s fiscal plans will have a direct bearing on the Bank of England’s decisions, as well as its forecasts for economic growth and inflation in the coming years.
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