Traders Bet on More BOE Cets as Lower Inflation Calms Market

The Bank of England's (BOE) recent rate cut has sparked a wave of optimism among traders, who are now betting on further cuts as lower inflation eases market concerns. In August, the BOE's Monetary Policy Committee (MPC) voted to reduce Bank Rate by 0.25 percentage points to 5%, a move that was widely anticipated and has since been followed by a 50 basis points (bps) cut in September. Now, traders are pricing in a 97% probability of a 25 bps rate cut from the BOE on 7 November, with analysts expecting the MPC to vote 7-2 in favor of the cut.

The market's expectation for further BOE cuts is driven by several key factors. Firstly, inflation expectations remain elevated, with the market expecting headline CPI inflation to increase to around 2¾% in the second half of 2024. The BOE is likely to continue cutting rates to bring inflation back to its 2% target. Secondly, economic growth has been stronger than expected, but the restrictive stance of monetary policy continues to weigh on activity in the real economy. A cut in Bank Rate could help to support economic growth and prevent a slowdown. Thirdly, the labor market is expected to ease further as GDP falls below potential, and a cut in Bank Rate could help to support the labor market and prevent unemployment from rising. Lastly, market expectations and the recent UK Budget have also contributed to the anticipation of further rate cuts.

The BOE's policy path can significantly influence the UK's inflation trajectory. Interest rate cuts can stimulate economic activity and increase demand, which can lead to higher inflation if the economy is operating at or near its capacity. However, if the economy is in a recession or has significant spare capacity, the impact on inflation may be limited. The BOE's decisions on interest rates are influenced by its projections for inflation, which are based on a range of indicators and assumptions. The upcoming inflation reports, particularly the October and November CPI reports, will be crucial for the BOE's December decision on interest rates. If these reports show that inflation is moderating as expected, the BOE may be more inclined to cut interest rates. However, if inflation remains stubbornly high, the BOE may need to maintain or even raise interest rates to bring inflation back to target.

The recent UK Budget, announced in late October 2024, had a significant impact on UK rate expectations and the BOE's future policy path. The fiscally expansive Budget increased the government's borrowing requirements, which can put upward pressure on inflation. The BOE will need to consider the impact of the Budget on inflation when deciding on its future policy path. If the BOE perceives that the Budget will lead to higher inflation, it may need to raise interest rates to offset this effect.

In conclusion, traders are betting on more BOE cuts as lower inflation calms the market, driven by factors such as elevated inflation expectations, economic growth, unemployment, market expectations, and the recent UK Budget. The BOE's policy path can significantly influence the UK's inflation trajectory, and the upcoming inflation reports and the impact of the Budget on inflation will be crucial in determining the future path of interest rates and inflation in the UK.