The Bank of England’s Monetary Policy Committee (MPC) voted unanimously to keep interest rates at the record low figure of 0.5% at which rates have now remained for seven years. All nine members of the MPC opted to freeze rates, following last week’s Budget in which the Office for Budget Responsibility (OBR) downgraded its growth forecast for the UK economy this year from 2.4% to 2.0%. The fact that the Bank of England’s own inflation target of 2.0% is unlikely to be reached until late 2017 at the earliest, means that a rise in interest rates is now likely to remain off the table for the foreseeable future. The forthcoming EU referendum makes the decision not to raise interest rates all the more inevitable.
Some commentators believe that the Bank of England could even be forced to cut interest rates in the coming months to combat low inflation and kick-start the economy, pointing to Budget documents that reveal that the Government’s latest economic forecasts are based on interest rates being cut from the current record low of 0.5%. The OBR economic outlook report published alongside the Budget states that ‘Our forecast is consistent with the bank rate being reduced below 0.5% for some of the next two years.’ The OBR report also states that rates are not expected to reach 0.75% until 2019 – a full decade after the Bank cut rates to 0.5% – and only rise to 1.1% by 2021.
The Federal Reserve has cut its annual growth outlook for the US economy to 2.2% from 2.4% and has kept its interest rate policy unchanged, citing the impact of the global slowdown and the turmoil in world markets. Although the Fed’s outlook for the U.S. economy was less bullish than many had expected, the Fed still forecast continuing hikes to the federal funds rate this year, but at a slower pace than foreseen in December. This still keeps the Fed heading in the opposite direction of other leading central banks, with the European Central Bank and the Bank of Japan (among others) having cut interest rates into negative territory to fight off deflationary pressures and stagnant growth.
However market indicators are signalling that investors see U.S. inflation on the rise – after it was almost non-existent since the credit crisis – despite scepticism from the Fed and the relatively slow pace of U.S. economic growth. Fed Chair, Janet Yellen, and other top policymakers are not yet convinced that inflation is heating up enough to warrant higher interest rates but developments in inflation-linked bonds and the dollar appear to show an inflation-linked trades are back in favour, especially as oil and other commodities have rebounded from multi-year lows.
Morgan Stanley have issued a gloomy warning that (in their view) there is a near one in three chance that the world economy will slip back into recession this year as low oil prices and extraordinary monetary stimulus have a dwindling impact on global growth. The US investment bank believes that a low growth environment had made the world vulnerable to a litany of shocks, including fears that central banks have lost control over domestic financial conditions, while rising political risks from Europe to the Middle East threaten to overwhelm governments. Morgan Stanley have forecast that global growth will reach just 3.0% this year, down from their earlier estimate of 3.3%, with growth in the advanced world falling to 1.5%. Global GDP fell to 2.3% in the last quarter of 2015 – below the 2.5% threshold which marks a recession – resulting in Morgan Stanley raising their global recession risk probability from 20% to 30%.
Ratings agency Fitch believes that Eurozone bank profits will continue to come under pressure despite a new wave of cheap lending from the European Central Bank (ECB). The ECB offered a new round of so-called targeted longer-term refinancing operations in March which are available to banks so long as they lend more to the real economy. It is aimed at mitigating the impact on bank profits from negative interest rates on bank reserves held with the ECB. Fitch has stated that the ECB action will have no impact on the bank ratings awarded by them.