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Bank of England angst as it predicts inflation to peak at 13.3%

an array of £20 notes

All eyes were on the Bank of England today as it raised rates by 50bps for the first time since the MPC was formed, putting the base rate at 1.75%.

As far as good news was concerned there wasn’t any, with the sweetest pill being the actual decision to raise rates.

This is because what came next painted a bleak outlook for the UK economy over the next two years, the tone of which has sent the pound sharply lower across the board, with the potential to test key support levels at 1.1980 against the US dollar and 0.8480 against the euro.

The bank said it expects inflation to peak at 13.3% in October, up from its June forecasts of 11%, and to average 13.1% during Q4, while going on to say that it expected inflation to remain high through 2023.

This means all things being equal we can expect to see the potential for another 50bps rate hike next month, given that the US Federal Reserve has already indicated it move by at least a similar amount at its September meeting.

For Q3 next year the Bank of England is forecasting that CPI will only fall to 9.5%, only marginally above the level it is now, with prices set to fall quite sharply thereafter.

The bank said it also expects core prices to pick up, although not by as much, expecting it to peak at 6.5%, by the end of this year, which means that food and energy will make up over half of headline CPI over the next 6 months.

The bank also downgraded its GDP forecasts for this year, 2023 and 2024, in essence laying out the expectation that we will see a long and painful recession throughout 2023, and the worst slowdown since 2008.

The projections show the UK economy contracting by 1.25% in 2023, and 0.25% in 2024, with unemployment set to rise to 6.3% in 2025.

The bank also said it plans to unwind its holding of gilts starting in September to the tune of £10bn a month.

The bleakness of the outlook painted by the Bank of England over the next two years, raises the political temperature on a government that is currently distracted by a leadership contest.

There is little doubt that the new Prime Minister will need to take additional fiscal measures in the form of an emergency budget to support an economy that is already on the cusp of a recession, and where energy bills look set to rise to £3,850 a year, next year.

Any new fiscal measures could mean that some of the worst predictions over GDP might be mitigated, however given the current vacuum at the top of government we can’t take that for granted.


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