A FIRST interest-rate cut by the Bank of England is still “several more months” away as inflation may prove persistent even though the economy has fallen into recession, chief economist Huw Pill said.
Speaking at a National Association for Business Economics conference in Washington, Pill argued that there was still not enough evidence to be confident inflation will decline sustainably despite the fact that the economy shrank in the second half of last year.
The economy’s low growth capacity, a consequence of a tight labour market and poor productivity, means that “even though we have weak activity – and in the UK we’re now in a technical recession – that of itself is not necessarily putting that much downward pressure on inflation,” Pill said.
“Getting to the point where we’re able to make that move on Bank rate is still some way off. I do think we will have to wait several more months until we can be convinced that the squeezing out of the persistent component of inflation is there.”
This week, the Office for National Statistics said GDP shrank in the last two quarters of 2023. Although the recession was small, a total contraction of 0.5 per cent over the period, and is expected to be brief, it raised the possibility of an early rate cut.
At the end of week whipsawed by conflicting data — inflation was lower than expected but wage growth and retail sales were above forecasts — markets were expecting the first quarter-point cut in August and for rates to end the year at 4.75 per cent, with a better-than-even chance of a fall to 4.5 per cent.
Earlier this month, the BOE said rates have now peaked at 5.25 per cent and the next move is likely to be down. On the nine-member Monetary Policy Committee, Pill was in the majority who voted to hold policy. One member called for a cut to 5 per cent and two wanted an increase to 5.5 per cent.
Pill’s cautious tone and emphasis on sticky inflation echo public comments this week from BOE Governor Andrew Bailey and external policymakers Megan Greene and Catherine Mann.
Pill said the recession alone may not be sufficient to alter the outlook.
The UK faces a worse trade-off between activity and inflation than the US, where the economy is much stronger, he said. Because Britain’s economic speed limit is low, even poor growth can be inflationary.
Pill said the BOE is “looking through” headline inflation, which has come down from a peak of 11.1 per cent to 4 per cent, and is focused instead on underlying prices – for which the BOE is looking at measures of services inflation, wage growth and labour market tightness.
Although the fall in headline inflation has been “good news,” there are “reasons for caution.” Services inflation remains “stubbornly high,” Pill said. “We’re on the right track to bring ourselves back to the inflation target, we have made progress but there’s still some way to go.”
Further evidence of a sharp decline in underlying domestic inflation would be a bit more reassuring, Pill said. “The dispersion across firms both in wage and price setting, it’s now diminishing but it still remains very elevated to what we saw prior to the onset of the pandemic.”
“And so from my perspective, at least, I would like to see further falls in this before I’m convinced that that self-sustaining domestic wage price cost dynamic is really being squeezed out of the system.”
“We will maintain restriction until we have got the persistent component squeezed out.” BLOOMBERG
