BOE overview

BOE cuts rates, as Budget and Trump cloud forecasts

The Bank of England cut interest rates on Thursday, as expected. Bank Rate is now 4.75%. The vote split was 8-1 and Catherine Mann, the noted hawk, was the only member of the MPC not to vote to cut rates. In her view, a cut was not warranted due to elevated wage growth and CPI likely to remain above the 2% target. However, ahead of this meeting, expectations were for a 7-2 split, so this suggests that the hawks have a weaker hold on the BOE than first thought. The 8 members who voted for a cut, did so because of the continued progress made on inflation, however, some of those who voted for a rate cut today remain worried about the future outlook for inflation.

Gilt yields fall

In the aftermath of this rate cut, the pound has risen by 0.5% vs the USD. GBP/USD is testing the highs of the day above $1.2950 and is in recovery mode after yesterday’s sell off. Gilt yields are mostly flat, bucking the trend for sharply higher European bond yields.

Gradual path for rate cuts

The pound is benefitting from the BOE’s claim that it will continue with ‘gradual’ cuts to interest rates going forward, and implied interest rates for the UK have moved higher. The implied interest rate for June 2025 is 4.19%, this had been 4.15% on Wednesday. This could add some upward pressure to GBP, and GBP is one of the strongest performers in the G10 FX space on Thursday. The FX market appears to be running with the slightly hawkish tone to the BOE statement and the change to growth and CPI forecasts included in the BOE’s Monetary Policy Report.

In the longer term we still think that the dollar is the King of the FX space after Trump’s big victory in the US election. Due to the upside bias in USD, the pound may struggle to stay above $1.30 if it gets to this level on the back of today’s rally.

The BOE: factoring in the Budget and Trump

This BOE meeting was never just about the rate cut, it was also about the Budget and the US election result. The BOE has adjusted its forecasts for growth and inflation on the back of last week’s Budget. The Budget is expected to add 0.75% to GDP next year, as the effects of the Budget are felt in the short term. The BOE also revised higher their inflation forecast on the back of the Budget by 0.5%. This is a notch higher than the OBR’s forecast for inflation. Overall, the BOE’s forecasts for the economic impacts from the Budget is inline with OBR forecasts. Regarding the rise in employer national insurance contributions, the BOE thinks that they will have a small downward impact on wages and a small upward increase in company level inflation.

UK growth expected to under perform in the long term

The BOE also released their longer-term forecasts for growth and inflation. The BOE now expects inflation to stay around the target 2% rate in the long term, back in August, inflation was expected to fall below target by Q3 2027. Growth expectations have also shifted a little. This year’s growth forecast has been revised lower to 1% from 1.25%, 2025’s GDP forecast has been revised higher to 1.75% from 1.5% and the forecast for 2026 has remained steady at 1.25%. In the longer term, the BOE forecasts that UK growth will be lower than the US and the Eurozone. This could add pressure to Chancellor Rachel Reeves.

BOE on tariff watch

Andrew Bailey said that it was too early to assess the economic impact of Donald Trump’s win in the US presidential election this week. However, he said that the UK will be exposed to global trade shocks since it is an open economy. He also said that the BOE will be watching closely for signs of ‘fragmentation’ in global trade on the back of potential Trump tariffs. From the BOE’s perspective, the win for Trump makes its job harder, however, it hasn’t altered the growth outlook too much. This doesn’t mean that the UK’s growth outlook will not be adversely impacted from a Trump presidency if he sticks to his campaign pledge that puts America first and slaps punitive tariffs on UK goods. The US is the UK’s largest export market for manufactured goods, and 25% of all exports go to the US, so the BOE is right to be worried and growth forecasts could be updated on the back of future US economic policy.

Why are yields falling?

The pound’s recovery rally on Thursday might seem at odds with the decline in UK Gilt yields. The UK’s 2-year yield is down some 4 basis points today, and the 10-year yield is lower by 2 bps. However, the decline in yields may not be a bad thing for the pound. Last week’s rapid rise in yields was due to fears about the UK’s fiscal sustainability due to the Budget’s dramatic increase in borrowing. The pound fell sharpy last week vs. the USD and the euro. UK yields are recovering today, not because the fiscal outlook in the UK has improved, but because the UK’s sovereign debt is the least ugly out of the other major economies. Us yields have surged higher due to the ‘Trump trade’, and European bonds are selling off after the collapse of the German governing coalition on Wednesday night. Thus, falling yields could be good news for the pound in the short term.

The path for future UK rate cuts

Today’s BOE meeting has caused a shift in UK rate expectations. There is now a 23% chance of a rate cut next month, this had been 32% on Wednesday. The BOE is next expected to cut in February, and we expect them to stick to the pattern of changing rates at meetings where they release their Monetary Policy Reports. There is still just over 3 rate cuts priced in by September 2025, which supports that assessment that the BOE only cuts rates when the Monetary Policy Report is released.

Overall, this was a cautious meeting from the BOE, who have had to factor in big events like the Budget and the economic implications of the next US president into their forecasts. This is a tricky task, and we think that their forecasts are subject to change. Also, this BOE meeting raises the prospect of only gradual rate cuts, and the chance that rates may not be cut by as much as expected. This is boosting the pound on Thursday, but a longer term move above $1.30 in GBP/USD is a tough ask this week.