Bank of England Rates Decision: What to Expect on May 9

We may not get definitive answers to all of these questions but falling inflation and weak economic growth lay a path for the Bank to start preparing to cut interest rates from 5.25%, where they've been since August 2023. This hike was the 14th consecutive increase and took rates to a 15-year high. In March, eight members of the MPC voted for no change, and one for a cut. Will more policymakers back the case for monetary easing?

Is the Bank of England Waiting for the Fed?

Because the Bank's most recent monetary policy meeting was as long ago as March 21, a lot has happened since. There is a sense that the UK now has to get up to speed with the changed expectations for interest rates, which can be summarised as: higher for longer. Until recently, the Federal Reserve was expected to take the lead and start cutting interest rates this spring, with other central banks to follow. But the Fed is now signalling that rate cuts are not on the horizon, but ruled out a rate hike in May 1st's meeting. The European Central Bank could be the first to cut, at its June meeting, as inflation continues to fall in the eurozone.

While the Bank of England is not co-ordinating with the Fed or ECB, it's mindful of global trends and domestic issues too. This leaves the Bank's monetary policy committee in a bind; it could in theory act before the Fed, and our inflation picture is better than in the US, but not by much. We have some of the "stickiness" in inflation that is troubling the Fed policymakers, but our inflation at 3.2% is below that of the US, where the latest CPI reading was 3.5%. The UK economy is weaker than that of the US - as the OECD pointed out this week - so monetary easing could be less problematic and could help stimulate parts of the economy such as the housing market. The chart below shows how rapidly inflation has fallen, but the Bank may want to see it falling further before acting.

When Will the Bank Start Cutting Interest Rates?

The Bank of England is expected to hold rates at 5.25% at May's meeting, according to FactSet consensus, but the publication of the monetary policy report will give some more up-to-date forecasts on the UK economy. Most importantly, we may get some hints about the Bank's possible timescale for rate cuts, although this is a subject that is usually circumnavigated carefully. We'll also get some indication about when UK inflation is expected to fall back to the 2% target (it may even fall below this in 2024). The next UK inflation data is released on May 22, but the Bank's next meeting and interest rate decision is not until June 20, after the ECB and Federal Reserve have announced their decisions.

When the Bank will cut is the key question, but it's one that UK interest rate setters are in no hurry to answer. Market pricing suggests August, and the OECD report predicts the third quarter as the most likely period - and that rates will be 3.75% by the end of 2025. Remember that at the end of 2023, some investment banks were expecting the BoE to have cut by February and March. Ahead of the meeting, the Bank's chief economist Huw Pill said recently that rate cuts are still a way in the future.

In March, MPC members voted 8-1 to hold rates, with one member voting for a cut. The composition of this is likely to change in May - could we see any lone voices arguing for a rate increase?

UK Mortgage Rates Have Gone Up Again

There are some contrarian voices out there - this week I spoke to Ariel Bezalel, fixed income fund manager at Jupiter (he manages the Silver-rated Jupiter Strategic Bond fund). He argues that the Bank could start cutting rates sooner than the market is expecting, which means UK gilt yields are attractive at current levels. UK government bond yields for two years are around 4.4%, around 4.2% for the five year and 4.30% for the 10 year gilt, although this maturity is trading above its par value. (For more on how government bonds work, my recent article gives an overview.) 

What's significant is that these yields have started to go up again, suggesting that bond markets are pricing in a "higher for longer" narrative for the UK too. This will be unwelcome news for homeowners moving off cheaper fixed-rate products this year, because mortgage lender have started to put interest rates up again. Faster rate cuts than the market is forecasting could see these gilt yields fall, but this will push bond prices up.

In terms of the stock market, the UK's FTSE 100 has hit a record high recently, so a rate cut could improve already decent sentiment. UK interest rates have been 5.25% since August 2023, so any sign that the Bank is reversing the 14 rate cuts since 2021 will be welcomed by businesses and consumers keen on cheaper borrowing costs.

Of course a lot depends on the currency movements because many UK listed stocks report in dollars; the Fed's "no cuts" line has supported the dollar this year. The pound has weakened against the dollar in 2024 as a result but strengthened against the euro, because the eurozone may see a rate cut before the UK. (Currencies follow rate movements closely. Countries such as the US with higher interest rates are more attractive for global investors, supporting the price of dollar-denominated assets.)

How Would a Future Interest Rate Cut Affect Me? 

So what would a rate cut mean for consumers, and, crucially, those with savings and investments?

As interest rates decrease, cash savings rates on bank accounts and ISAs will likely decrease, meaning savers may start getting less bang for their buck at the bank.

However, lower rates will also make consumer debt cheaper, which could bring relief to people with substantial credit card debt - and mortgage holders with variable-rate products. Those who have remortgaged into fixed-rate products in the last two years may not feel this until they remortgage once more.

What Will Equities and Bonds do if Rates Are Cut?

Markets tend to "price in" any changes very quickly, so the reaction to this kind of news will be swift. Conventional wisdom suggests rate cuts are better for equities than bonds. But while bonds have returned to favour in the higher interest rate era because of their tempting yields, rate cuts may not be bad for them either.

Falling interest rates mean lower yields, which push bond prices ever higher - a key factor in total returns. And lower rates make existing bonds, and particularly those already issued during a period of rate hikes, more attractive for yield.

In addition, many pension funds, for whom rising bond yields have caused havoc, could also stand to benefit from a looser monetary approach. This may well benefit the government's attempts to reignite the UK's stagnant economy as (in theory) it encourages institutional investors to plough money into promising growth businesses.

How Will The Real Economy React?

Over in the "real economy", the unwinding of monetary policy will likely also benefit shops and online businesses who have been squeezed by the twin spectres of supply chain inflation and lower consumer confidence. If higher interest rates have the power to curb spending in the UK economy and cool gross domestic product growth, lower rates will in theory create the opposite effect.

In practice, however, there is a lot of uncertainty. While lower interest rates tend to stimulate the economy, the UK is still expected to suffer from low growth in the coming years wherever rates end up. Either way, it will take time for the precise effects to be visible, let alone quantifiable.