The Bank of England Expects Prolonged High Borrowing Costs
The Bank of England recently announced a quarter percentage point increase in interest rates, which was lower than what many had anticipated. However, the most significant revelation from the Bank’s Monetary Policy Report is that borrowing costs are expected to remain high for a longer period than previously thought.
Just a few months ago, financial markets predicted that the Bank Rate would decrease to 4% by 2024 and 3.7% by 2025. However, the current market sentiment suggests that rates will still be at 5.9% in 2024 and 5% by 2025. The Bank’s report not only supports these assumptions but also hints at the likelihood of higher rates for an extended period.
The Bank of England does not explicitly provide guidance on future interest rate movements but prefers to drop hints. In the minutes accompanying the recent decision, the Bank strongly indicated that it would ensure the Bank Rate remains restrictive for a sustained period to bring inflation back to its 2% target in the medium term.
One of the reasons for this stance can be found in the Bank’s forecasts, which highlight the impact of sharp increases in energy, food, and other import prices on domestic prices and wages. The Bank acknowledges that these second-round effects may persist for longer than initially expected, leading to the crystallization of inflation risks.
This realization implies that the Bank will need to exert more effort to bring down price rises than previously anticipated. As a result, households, especially those with mortgages and those renting, will experience prolonged pain. Unlike previous periods where floating rate mortgages were prevalent, the impact of interest rate increases will be gradual as fixed-rate mortgages expire and are replaced with higher monthly payments.
The Bank’s economic forecast suggests that the economy is unlikely to face a recession, at least according to its central projection. However, it is expected to experience a prolonged period of depressed growth due to the higher interest rates. Meaningful growth is not expected until 2026, which paints a bleak picture for the economy.
It is worth noting that the Bank has been subject to criticism for failing to foresee the recent spike in inflation. As a result, an independent inquiry led by former Federal Reserve chairman Ben Bernanke is currently investigating this oversight. Given this history, it is not implausible that the Bank may also fail to anticipate a more significant economic recovery.
Overall, the Bank of England’s indication of prolonged high borrowing costs suggests that households and the economy will face challenges in the coming years. It remains to be seen how the Bank’s forecasts will play out and whether there will be any adjustments to its monetary policy in response to changing economic conditions.