Bank of England announces largest rate hike in over 30 years

On the latest edition of Market Week in Review, Equity Portfolio Manager Olga Bezrokov and Client CIO Chris Kyle discussed recent rate increases by the U.S. Federal Reserve (Fed) and the Bank of England.

How did markets react to the latest Fed rate hike?

Kyle kicked off the segment by noting there's been a flurry of activity among central banks in recent weeks, including October interest-rate increases by the Bank of Canada and the European Central Bank and, more recently, rate hikes by the Fed and the Bank of England.

Honing in on the Fed’s 02 November announcement of another 75-basis-point (bps) increase in borrowing costs, Bezrokov said there were three important takeaways from the decision. The first, she explained, was an acknowledgement by the central bank that the impacts of this year's previously implemented rate hikes will take time to flow through to the U.S. economy. Bezrokov noted that markets initially responded positively to this news, with investors taking the statement as a sign that perhaps the Fed may slow down, or even pause, its rate-hiking campaign until the economic impacts of the recent rate increases become more clear.

However, in the ensuing press conference, Fed Chair Jerome Powell made it apparent that the central bank still has a ways to go before pausing on rate hikes, she said. He did, however, indicate that the Fed might consider slowing down the pace of rate hikes at its next meeting in December or in early 2023, Bezrokov noted. “This is largely in line with market expectations and with our base-case scenario at Russell Investments. Ultimately, this means that starting next month, smaller rate hikes—to the tune of 50 bps—may be possible,” she remarked.

What triggered the greatest reaction in markets were Powell's comments pertaining to inflation and the labour market, Bezrokov stated. "The Fed chair noted that with the labour market still very robust and inflation continuing to run hot, the peak federal funds rate will probably end up higher than was forecasted at the September meeting,” she explained. In other words, the Fed is still likely to continue raising rates, Bezrokov said—just in smaller increments.

Ultimately, in the Fed’s eyes, the question of how high to raise rates is more important than the question of when to moderate the pace of rate increases, she said. “I believe this means that, at least for now, the U.S. central bank will remain hawkish—and also that expectations for inflationary pressures to ease quickly are too optimistic. This probably means that the peak federal funds rate, once reached, will remain in place for some time,” Bezrokov concluded.

BoE lifts benchmark rate by 0.75%, warns of potential two-year recession

Turning to the UK, Bezrokov noted that the Bank of England (BoE) also opted for a jumbo-sized rate increase at its recent meeting, lifting its key lending rate by 75 bps on 03 November. The increase was the central bank’s largest in over 30 years, she said, explaining that the move was the latest in a series of steps by the BoE to tackle the nation’s skyrocketing inflation.

“In the UK, the cost of living has been rising at the fastest pace in decades, with consumer prices jumping 10% in September on a year-over-year basis,” Bezrokov stated. The UK, in particular, has been hammered by surging food and energy prices as a result of the Russia-Ukraine war, she added.

In addition to the rate increase, the BoE also noted that it sees interest rates peaking around 4.5% in the fall of 2023, Bezrokov said. For context, the central bank’s current lending rate now stands at 3.0%, she noted.

“The BoE also painted a fairly painful economic picture moving forward. Previously, the bank’s expectations were for the UK to enter a roughly 12-month recession in late 2022. Now, the BoE believes the UK has already entered an economic downturn—and sees it continuing through the first half of 2024,” she stated, adding that if these predictions were to pan out, the recession would be the UK’s longest on record, with records dating to the 1920s. Amid such a backdrop, the BoE believes the country’s unemployment rate could increase to 6.5% by the end of 2025, Bezrokov added.

“Ultimately, I think the BoE’s statement highlights just how important it is for central banks to rein in inflation now, as failing to keep price pressures in check can lead to considerable pain,” she concluded.

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