BOE Expected to Cut Despite Inflation Pressure

Apparent divisions within the BOE on how to deal with a weak economy with persistently high inflation are expected to yield lower rates but potentially a three-way vote split.

The Latest Developments

• The BOE is expected to cut rates by 25 bps, but the vote could have a three-way split.
• UK inflation came in hotter than expected, which might reduce the chances of a further rate cut this year.
• The BOE is expected to update its forecasts for inflation and growth this year, which could set the tone for what the market expects in terms of monetary policy for the rest of the year.

The Last Cut of the Year?

Economists and the market are pretty much in agreement that the BOE will deliver a 25-bps rate cut at the end of its meeting on Thursday. That means attention turns to what will happen after. Although inflation is high, the economy is sputtering, and Governor Andrew Bailey insists that rates will decrease, making the path forward somewhat unclear.

This has led to divisions among MPC members, with two camps forming among those who worry about inflation and those who want to support the economy. As a result, some economists suggest that there could be a three-way split, which could leave the markets without a clear message on the Bank's direction and increase volatility in cable.

The majority of economists expect the BOE to pause after this meeting and resume easing in November as part of the "gradual and careful" rate normalisation programme. But some economists disagree, pointing to high inflation that rose faster than expected in June at an annual rate of 3.6%. If inflation were to move above the BOE's expectations (it forecasted a peak of 3.7% this year), then the MPC would likely have to keep rates higher. This might provide a hawkish bent to the decision if the BOE increases its estimate of inflation for this year.

Updating the Outlook

The August meeting is also the occasion for the BOE to update its forecasts for the economy, which traders take stock of to see where monetary policy might go. If the inflation forecast were to increase, that could be a sign that the BOE will refrain from further rate cuts as it tries to bring consumer prices under control. 

However, if inflation expectations remain unchanged, but the GDP growth outlook is reduced, the outcome could mean that the BOE is worried that inflation could undershoot in the future and be more inclined to cut rates. Its last forecasts predicted inflation to peak at 3.7% this year and fall back to the 2.0% target by the end of 2026. The Bank expected that GDP would pick up from 0.8% this year to 1.3% next year.

Momentum for Cable Remains Downward

The GBPUSD (GBP/USD) has traded sideways over the last couple of days as investors take note of trade announcements and await the BOE rate decision. This has allowed RSI to come out of oversold territory and provide some space, as the price has slid below the lower 'autotrend' trendline. If that were the case, the pair could lose the 1.3200 support, which it bounced off of last week, and find support at the VWAP low of 1.3190 or the 1.3140 swing low it formed last week. More dovish implications could even expose the 1.3000 handle. In the opposite direction, an upward leg could meet the VWAP resistance at 1.3387, with further momentum opening up the upper VWAP near 1.3580. Such a move could coincide with prices retesting the ascending autotrend line.