FX.co ★ New Year's gift from the Bank of England: an unplanned increase in the interest rate took place

The Bank of England unexpectedly raised interest rates for economists, traders, and, first of all, banks. This is the first increase since the pandemic. Thus, the World Bank government has finally discarded the threat to the UK economy, which is broadcast by records of coronavirus lesions. The Bank of England has become the first central bank with the highest-profile that will be able to cope with rising inflation.

New Year's gift from the Bank of England: an unplanned increase in the interest rate took place

Today, Thursday, December 16, 2021, the members of the Monetary Committee of the Bank of England, headed by Chairman Andrew Bailey, voted 8:1 in favor of raising the cost of borrowing by 15 basis points, to 0.25%, which provided an increase that has not yet been made by any other central bank of the "Big Seven" since the beginning of the crisis. Silvana Tenreyro was the only dissenter. At the same time, politicians did not fail to point out that a more "moderate" tightening is likely to be required, as inflation is approaching a peak, which is expected to be about 6% in April 2022.

In addition to emergency response during the pandemic, this is also the first time that officials have gathered for an unscheduled meeting - since the introduction of planned in 2015. Only recently, a planned meeting took place without shocks: the bank left its monetary policy unchanged.

Of course, this move is a response to the danger posed by a sharp rise in prices: a report this week shows that inflation jumped to 5.1% in November, more than double the Central Bank's target. The forecasts were also influenced by Tuesday's employment report, showing that British companies have increased the number of jobs at a record pace, which indicates a fairly rapid economic recovery.

"The labor market is tense and continues to narrow, and there are some signs that the pressure on domestic costs and prices is intensifying," the Bank of England said in comments. "Although the Omicron option is likely to put pressure on short-term activity, its impact on medium-term inflationary pressures is unclear at this stage."

Taking these circumstances into account, the chief European economist of Goldman Sachs Group Inc. said that an outcome without changes would be unprofitable, although this is exactly what he expected from the Bank of Great Britain.

"Another 25 basis point increase in February would be good," said Fabrice Montagne, chief economist at Barclays. "If this is done, MPC will also be able to start reducing its balance sheet, while the maturity of bonds from his portfolio will begin in early March."

Assumptions are confirmed by the comment of the Bank of England, which also warned of further measures: "The Committee still believes that there are bilateral risks concerning the inflation forecast in the medium term, but that some moderate tightening of monetary policy during the forecast period is likely to be required to achieve the inflation target of 2".

The markets are counting on another 20 basis points of base price growth in February, which implies an approximately 80% probability of a transition to a 0.5% increase in the next period. This would allow the Bank of England to immediately put an end to its policy of reinvesting its overdue quantitative easing bonds, which would allow up to 37 billion pounds of government debt to be written off from its balance sheet by the end of 2022.

This is the first increase by the Bank of England since 2018. As a result, the central bank's purchases of government bonds amounted to 875 billion pounds ($ 1.2 trillion), compared with 435 billion pounds before the crisis. The Central Commission has raised rates only once in the last 45 years and not once since it was granted independence in 1997.

Omicron is raging

Economist Dan Henson: "At the December meeting of the Bank of England, concerns about inflation outweighed concerns about omicron. This step is a gamble - perhaps the economy will ignore the new version of COVID-19, but no one knows for sure. Assuming that the virus does not slow down the economy significantly, we expect the next step in May, although there is a small risk that the Bank of England will rise again in February."

The abrupt transition of the Bank of England to a policy tightening regime, of course, surprised the vast majority of economists who did not expect such drastic changes, followed by investors who estimated the probability of movement by a maximum of 40%. This result was the second unexpected one after the November decision to hold the unsuccessful financial markets.

Of course, the increase will affect only bondholders so far, that is, mainly the banking sector.

"The Bank of England's decision to raise interest rates was unexpected given the growing uncertainty about the economic impact of the Omicron option," said Suren Thiru, head of economics at the British Chamber of Commerce. "Although today's rate hike may have little impact on most firms, many will consider it the first step in a longer political movement."

Alas, while the country is in the grip of a new wave of coronavirus caused by a more contagious variant of omicron, due to which the daily number of cases in the UK has reached the highest recorded total since the beginning of the pandemic.

The danger that could lead to an overload of the country's health services is such that the government of Prime Minister Boris Johnson has re-imposed some restrictions on activities, and in the coming days and weeks, if the outbreak cannot be overcome, new measures can be expected.

Despite this factor, the Bank of England heeded the warning of the International Monetary Fund, published this week. In it, the institution warns regional economies against inaction regarding inflation. The commission members paid much more attention to employment and the fact that after the cancellation of incentive measures in September, there was no significant jump in unemployment.

Later on Thursday, the European Central Bank is due to explain its plan to phase out emergency stimulus. However, the day before, President Christine Lagarde tried her best to convince investors that a rate hike in the euro area would not happen in the near future.

But the US Federal Reserve has already set a hawkish tone ahead of the Bank of England's announcement, signaling three rate hikes next year and accelerating the winding down of its stimulus program, while Norway continued its tightening efforts on Thursday, having already completed the second increase this year.

Since the news was published, the pound has risen by 0.8%, while the yield on 10-year UK bonds jumped by 7 basis points after this decision. Traders now expect the Bank of England's key rate to rise to 1% by September. The FTSE 100 stock index declined.