Common ground eludes Bank in bid to tame inflation

In December 2021, the Bank of England became one of the world’s first major monetary authorities to raise interest rates in response to what it called “two-sided risks around the inflation outlook”.
As the third anniversary of the Bank’s decision to tighten borrowing costs from 0.1 per cent to 0.25 per cent approaches, the Old Lady of Threadneedle Street is once again an anomaly among global central banks, this time for cutting interest rates far slower than its peers in North America and Europe. This disparity will be on show again next month, when the European Central Bank and US Federal Reserve are poised to bring down borrowing costs, while the Bank’s monetary policy committee chooses to stay put, according to market forecasts.
The adage of the first central bank to raise interest rates to curb inflation also being the first to cut has not applied in the UK. That is largely down to the Bank’s warnings of a “persistence” in price pressures emanating from elevated wage costs, which has translated to strong inflation in the services sector that dominates the British economy.
The Bank’s caution was seemingly justified this week when official figures showed inflation crept up by more than expected from 1.7 per cent to 2.3 per cent in October, the biggest month-on-month jump since the height of the global energy crisis in 2022. The climb was driven by an expected rise in energy costs and a surprising acceleration in airfare prices — factors that should not ordinarily trouble ratesetters, who usually “look through” volatile monthly jumps.
But as 2024 comes to a close, the nine-strong monetary policy committee is unusually split on how far and fast to cut interest rates next year. This week, five of the MPC’s ratesetters laid bare their contrasting views about where inflation is heading next. “A key feature of the current MPC is a clear divergence of views on the committee,” Philip Shaw at Investec says.
Three distinct camps are emerging inside the MPC. The first is led by Catherine Mann, the most consistently hawkish ratesetter and an external member, who has yet to vote in favour of a rate cut this year. Speaking to MPs on Tuesday, Mann said she thought that there were no obvious signs of further disinflation in the economy, and a bigger risk that inflation will end up remaining sticky, as wages and services inflation are elevated.
The second camp is made up of dovish members who think the slowing economy, global trade uncertainty, and a cooling labour market mean inflation could come down faster than expected. This group includes Sir Dave Ramsden, a deputy governor of the Bank, and Alan Taylor, the newest external member of the committee, who have both indicated that they could be liable to vote in favour of faster monetary loosening in the coming months.
The final grouping is made up of the MPC’s senior executives, including Andrew Bailey, the governor, and Clare Lombardelli, a deputy governor, who have said the inflationary risks are “balanced” with the potential for upside and downside pressures to emerge in the next 12 months.
This dissonance will become more pronounced next week, when Swati Dhingra, an arch dove, delivers a speech at the Bank of England Watchers’ Conference on Monday, in remarks that are likely to underline her warnings about inflation undershooting the central bank’s 2 per cent target. On Tuesday, Huw Pill, chief economist of the Bank, who has veered to the more hawkish end of the spectrum, will address the House of Lords economics committee.
The clear intellectual divergences make the Bank relatively unique among its peers. Despite years of being accused of group-think, the MPC operates on a more transparent basis than governors at the European Central Bank, or on the Fed’s open markets committee, where vote splits are not published.
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There are downsides to the MPC’s structure, as mixed messages from ratesetters can heighten volatility in financial markets around the pound and gilt yields, as traders try to weigh up the balance between doves, hawks, and those in the cautious middle. Investors are pricing in interest rate cuts every quarter in 2025, a pace which Taylor, who joined the MPC in September, said was consistent with the Bank’s gradual approach. By contrast, Mann said four cuts would be “too aggressive”.
The MPC’s splits have deepened after the Bank’s view on the economy has been clouded by questionable labour market statistics which are understating employment growth and overstating labour market inactivity, according to the Resolution Foundation.
Bailey has bemoaned the Office for National Statistics’ struggle to produce accurate measures of the jobs market for the past two years due to falling response rates from households, handicapping ratesetters at a key point in the economic cycle.
Meg Hillier, the new chairwoman of the Commons Treasury select committee, has written to Professor Sir Ian Diamond, the UK’s national statistician, over “major concerns about the UK’s ability to set monetary and fiscal policy appropriately in the absence of reliable data about the labour market”.
The MPC’s ability to forecast future inflation has also been thrown off by Labour’s budget measures, in particular the raising of employers’ national insurance contributions, which Bailey has said could have inflationary or deflationary impacts, depending on how businesses choose to respond to higher employment costs.
• David Smith: After Brexit, the UK can ill afford Donald Trump’s tariffs
The other factor weighing on ratesetters is the growth impact from a fractured international trading environment that will worsen if the US president-elect Donald Trump comes good on his promise to hit all US trading partners with tariffs of up to 20 per cent, rising to 60 per cent on Chinese goods.
As Trump begins assembling his new cabinet, rumours continue to swirl about him firing the head of the US Federal Reserve, the world’s most powerful central bank, which operates independently of the executive branch of government.
• I won’t allow Trump to force me out, insists Fed chairman
The future of Jerome Powell, the Fed chairman appointed by Trump in 2018, has been under a cloud after the returning president and his advisers have dropped hints at removing him over the Fed’s aggressive interest rate rises that began in 2022 and ended earlier this year. Kicking out Powell would be an unprecedented breach of the Fed’s independence and an “all bets are off” moment in financial markets. Here’s how it could all play out.
Probably not, although any decision to do so would likely end up in a protracted legal battle. No president has fired a Fed chairman, and when asked if Trump could unseat him this month, Powell replied curtly: “No. Not permitted under the law”.
Trump threatened to dismiss Powell during his first term, when he was advised that the president did not have the legal right to do so. But this did not stop Powell and Fed insiders from preparing emergency legal measures to challenge any dismissal in the courts.
“The president cannot fire a Fed governor without cause,” Libby Cantrill, head of US public policy at Pimco, a bond fund, said.
Powell’s second four-year term will end in May 2026, when Trump will get the chance to nominate his successor. Another board seat at the central bank will also become available at the start of 2026, giving the president a chance to appoint a loyalist in the position.
Trump’s nominee to replace Powell will, however, have to be approved by the Senate banking committee. In his first term, Trump had one appointee for the Fed board, Judy Shelton, formally rejected by the Senate, while others such as Stephen Moore and Herman Cain withdrew before they were formally nominated.
Scott Bessent, a hedge fund manager and Trump ally, has said the president-elect should name Powell’s successor as soon as possible, in a shadow role that will make the incumbent a “sitting duck”. Bessent has since backed away from the idea.
The latest candidate to emerge as the new favourite is Kevin Warsh, a former Fed board member, whom the president-elect is also considering for the powerful role of Treasury secretary. According to The Wall Street Journal, Trump may move Warsh from the Treasury to the Fed in 2026. Warsh, who was one of the candidates to replace Janet Yellen chairing the Fed in 2018, became the youngest Fed governor aged 35 in 2006. The former Morgan Stanley banker is an advocate for lighter banking regulation.
Trump has criticised Powell for raising interest rates sharply over the last two years, as tighter policy is designed to slow economic growth. High rates have also pushed up the value of the dollar, a development that Trump has also decried for hurting American exporters.