Traders Trim BOE Rate-Cut Bets as Inflation Persists

The Bank of England's (BOE) monetary policy trajectory has been a hot topic among traders and investors alike, with recent inflation data casting a shadow over expectations for rate cuts. In a surprising turn of events, the Office for National Statistics (ONS) revealed that UK inflation rose to 2.6% in November, up from 2.3% in October. This unexpected increase has led traders to reassess their expectations for the BOE's monetary policy trajectory.



The base rate is now widely expected to remain unchanged at 4.75% in the upcoming meeting, with markets pricing in just one rate cut by the end of 2025. The BOE's target of 2% inflation is still some way off, and the central bank has previously raised interest rates to combat inflation. The ONS attributed the rise to increased fuel and clothing prices, partially offset by a significant fall in air fares. Core inflation, which excludes energy, food, alcohol, and tobacco, also rose to 3.5%.

The BOE's communication and forward guidance have significantly influenced traders' expectations. The central bank's commitment to a "gradual approach to removing policy restraint" and its guidance that "some further tightening in monetary policy may be required" have tempered traders' expectations for aggressive rate cuts. This is reflected in the market pricing in just three rate cuts by the end of 2025, down from six earlier in the year.

Market participants' assessments of the UK economy's growth prospects and labor market dynamics played a significant role in their rate-cut bets. The BOE's decision to keep interest rates unchanged at 4.75% in December 2024, despite expectations of a cut, was influenced by the higher-than-expected inflation rate of 2.6% (ONS, 2024). This inflation rate, driven by rising fuel and clothing prices, was partially offset by a significant fall in air fares. Core inflation, excluding energy, food, alcohol, and tobacco, also rose to 3.5% (ONS, 2024). The BOE's decision reflected its commitment to a "gradual approach to removing policy restraint," indicating that it was not yet convinced that inflation had peaked. Investors, therefore, scaled back their rate-cut bets, pricing in just three cuts by the end of 2025, down from six cuts expected earlier in the year (Bloomberg, 2024).

As the BOE grapples with high inflation, it has adapted its forward guidance and communication strategies. Initially, markets expected six rate cuts in 2024, but the BOE's reluctance to ease policy has left it behind its counterparts, making the pound the best-performing G10 currency this year. The BOE's communication has been criticized for encroaching on its independence, with former officials and economists expressing concern. The central bank's focus on a broad range of inflation factors and its commitment to removing policy restraint suggest a more cautious approach to rate cuts. Despite the BOE's recent pause in rate cuts, traders have scaled back their bets on further reductions, with markets pricing in just three cuts by February 2025.



In conclusion, the recent inflation data has led traders to reassess their expectations for the BOE's monetary policy trajectory. The BOE's communication and forward guidance, as well as market participants' assessments of the UK economy's growth prospects and labor market dynamics, have played a significant role in shaping traders' expectations. As the BOE continues to grapple with high inflation, it must adapt its forward guidance and communication strategies to maintain market confidence and manage expectations. The delicate balance between controlling inflation and supporting economic growth will be a critical factor in the BOE's monetary policy decisions moving forward.