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Northview Group: Base rate to rise in 3 months’ time to 0.5%

by: Alex Maddox, product and capital markets director, The Northview Group
  • 11/10/2017
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Northview Group: Base rate to rise in 3 months’ time to 0.5%
As Brexit negotiations continue amid wider global uncertainty, a robust and slightly stronger than expected UK economy has raised the potential for a near-term rise in rates.

 

In October, base rates were kept at the record low rate of 0.25%, with a 7-2 vote in favour of a hold, as in the previous month. Nevertheless, with UK CPI inflation rising by 0.1% in August 2017 to 2.7% (up from 2.6% in July) and twelve-month CPI inflation rising to 2.9%, speculation is growing on how soon an interest rate rise could happen. With inflation expected to reach above 3% in October, Carney has hinted at a rate rise happening sooner rather than later and has commented that rates are likely to increase further over the next two years than what some markets are currently predicting.

The Bank of England has also unanimously voted to keep the corporate and government bond purchases to their current level at £435bn, as part of its intention to meet the UK’s 2% inflation target. GDP rose by 0.3% in the second quarter of 2017, in line with the MPC’s August predictions, but perhaps more importantly unemployment has fallen yet further to 4.3% below BoE forecasts, the lowest level in over 40 years.

MPC members will likely continue to assess that if the economy remains generally consistent with the August Inflation Report, then monetary policy may potentially be tightened, which could mean a near-term rate rise, now forecasted by the market for the next MPC meeting scheduled in early November.

Evidence still suggests though, that the rate of growth could eventually slow. Last month, the Bank of England cut its growth forecast for the year from 1.9% to 1.7%. Whilst Carney’s comments about the impact of Brexit had sent the pound to a seven-year low in August, the pound gained back its loss after the August MPC meeting.

However, this month saw the Governor take a far more hawkish tone, hinting at near-term rate rises. When the markets closed, the pound had rallied, jumping to the highest level in more than a year as it leaped above the $1.36 mark and rose by 1.1% against the euro.

In light of these considerations and as two-year swap rates approach the 0.80% threshold on the afternoon following the MPC meeting, the markets have revised their estimates for a near-term rise sharply. Looking at data from the financial markets and the UK’s economic outlook, we expect the current low 0.25% base rate to rise in 3 months’ time to 0.5%. Over the course of the next two years, our predictions set the base rate at hitting 1% by 2020 (shown in the first row of the table below).

For three-month LIBOR, we again expect to see a rise to 0.5% in three months’ time, in line with Borrowing Base Rate forecasts.

Continued uncertainty around Brexit and ongoing global tensions do remain a weight on plans for a rate rise and could potentially limit any near-term changes. However, the Bank has certainly struck a more hawkish tone this month and the fallout could mean a rise in the base rate far sooner than many of us previously thought. Then the question is how long until this starts to drive mortgage rates higher.

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