28 July 2023: Majority of the Economic Council is against further rate hikes

28 July 2023: Majority of the Economic Council is against further rate hikes


  • The Economic Council advises against further rate hikes
  • Economy grew at 2.4% in Q2
  • ECB hikes rates despite a slowing economy
GBP – Market Commentary

Bank of England between a “rock and a hard place”

A position on the Chancellor’s Economic Council is akin to being appointed to the Bank of England’s Monetary Policy Committee but without the responsibility.

The role of the Council is to “second guess” the MPC and make theoretical judgements on monetary policy, but without the responsibility that those decisions have in the “real world”.”

At its latest meeting, the Council, which is made up of seven members including former Bank of England Committee and Karen Ward, Chief Economic Strategist at Investment Bank J.P. Morgan, counselled against further rate hikes for fear that they will push the economy into recession.

Ward was also quoted recently as saying she believes that the MPC may be using a mild recession as a deliberate strategy to bring down inflation. However, that was coupled with another comment that no blame can be attached to the Bank for “simply doing its job.”

Those two comments illustrate the futility of appointing a shadow MPC which can make pronouncements, often with the benefit of hindsight, without the responsibility of how they affect the lives of real people.

As a member of the MPC, Haldane had a reputation as its most dovish member, often publicly making the case for lower interest rates, although he always voted with the majority.

The Economic Council has seven members, and it is understood that a majority (the voting results are not published) are in favour of a pause or an end, or at least a pause in the cycle of interest rate hikes.

Their colleagues at the Treasury are of the opinion that the current level of short-term interest rates is already sufficient to dampen demand to such an extent that Rishi Sunak’s pledge to halve the headline rate of inflation by the end of the year is achievable.

Despite being the first G7 Central Bank to begin to raise rates in December 2021, the Bank has found the going tough, deciding to raise rates in smaller increments over a longer period to avoid driving the economy into a recession.

It broke with that methodology at its most recent meeting by hiking by fifty basis points.

At next week’s meeting, there are three scenarios. A pause, which is unlikely given the current rate of inflation coupled with the news that the IMF sees the UK economy growing this year, a twenty-five basis point increase which would see a return to the long-standing policy, or another fifty point hike, which is known to be favoured by several Banks in the City.

The MPC holds the short-term fate of Sterling in its grasp. For the pound to maintain its recent relative strength, the MPC will need to at least match the moves made by the ECB and FOMC this week.

Yesterday, the pound lost more than a cent versus the dollar as data for Q2 showed that the U.S. economy grew by far more than expected in the period between April and June. It fell to a low of 1.2782, closing at 1.2795.

USD – Market Commentary

Growth far exceeds expectations in Q2

The FOMC has been plagued by negative comments about its aggressively hawkish attitude to monetary policy for at least nine months, with prominent figures from the world of banking and commerce predicting that continual rate hikes will drive the economy into a recession.

It has also had to fight long-held beliefs that predict that an inversion of the yield curve coupled with the two tear fall in business activity presages a contraction in the economy.

Having been praised for pausing its cycle of rate hikes last month, although Jerome Powell did say that the pause would only be temporary to allow the economy to “catch up” with the rate hikes that have gone before, the market was in two minds whether a further hike would take place this month.

Showing a lawyer’s “tenacity” for seeing the job through to the end, Powell announced a further twenty-five-point hike at the conclusion of the FOMC meeting on Wednesday evening despite the latest data showing that headline inflation fell to 3%.

In his press conference following the meeting, Powell showed his determination to not only drive inflation lower but do all that he can to ensure that it does not reignite, as is feared by the IMF in coming months.

He used the Central Banker’s tool of saying that each meeting will now decide individually based on the data whether further increase(s) are merited. Having reached 5.25%, the Fed Funds rate is now generally believed to have reached a level which is restrictive on demand.

It is expected that it will remain at this level, possibly until the end of the year, unless inflation does indeed reignite.

When asked about when he expects to be able to consider a rate cut, Powell was naturally coy but did comment that a cut would not be considered until the first quarter of next year.

Data was released for Q2 GDP yesterday, and although it is significantly backwards looking since interest rates have been hiked three times since then, it showed that the economy was far stronger than previously reported.

It grew by 2.4% between April and June, with expectations of a cooling from the 2% growth which was achieved in Q1.

The dollar reacted positively to both the data and a further tightening of monetary policy. The index rose to a high of 101.84 and closed at 101.78.

Next week sees the release of the July employment report, with the market expecting a further cooling of headline new job creation as the economy heads for an almost legendary soft-landing.

EUR – Market Commentary

Anything is possible at the next meeting

One of the most predictable ECB Governing Council meetings took place yesterday, and the vote to hike rates again by twenty-five basis points came as no surprise to the market.

In her press conference following the announcement, ECB President Christine Lagarde was unusually coy about another hike being agreed at the September meeting. It showed that there were quite heated discussions yesterday about the merits of continued hikes given the downturn in the overall Eurozone economy recently.

The individual votes are not published as they are in other G7 economies, but even though there were more dovish comments recently from previous members of the frugal five, it is likely that Germany held firm and voted for a hike despite the IMF’s recent labelling the German economy as likely to be the weakest in the G7 this year.

The base rate of interest is now at the level last seen in 2000, up to 3.75%. The market expects that rates will “top out” at between 4% and 4.25%, although given the heated disagreement seen regarding a hike at September’s meeting, that prediction may now be lowered.

Inflation has been “too high for too long”, according to Lagarde, and while she remains committed to bringing it down close to the Central Bank’s target of 2%, that is likely to take until the end of next year, at least.

When quizzed about the possibility of a further hike next month, Lagarde commented that “all things are possible.”

This was a deviation from her previous press conferences at which she was happy to announce in advance that rates would be hiked, which had caused a high degree of consternation among the more dovish members of the Committee who felt she was overstepping her mandate.

The market still agrees with German Economist Isabel Schnabel, the risk of not tightening enough far outweighs those of going too far.

Lagarde also acknowledged the weakening of the economy but said that this was a short-term issue and would not deter the ECB from the continued war with inflation.

The euro was finally more affected by the economic reality of comparative growth data than tighter monetary policy. It fell to a low of 1.0968 in reaction to stronger-than-expected U.S. Q2 GDP data and closed at 1.0975.

Have a great day!

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Alan Hill

Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.