The pound surged to a 12-month high after the Bank of England signalled it is close to a rate hike

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Bank of England Governor Mark Carney.
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Reuters/Frank Augstein

LONDON – The pound surged more than 1% to a 12-month high on Thursday after the Bank of England signalled it was preparing to reduce stimulus following the September meeting of its Monetary Policy Committee.

The bank kept rates at a record-low 0.25% and the bank’s QE programme capped at a maximum of £435 billion.

The committee voted to leave rates unchanged by seven votes to two.

Newly appointed MPC member Sir Dave Ramsden used his first vote to back leaving rates unchanged.

While it did not change policy, the majority of members of the committee said that they see that “some withdrawal of monetary stimulus is likely to be appropriate over the coming months in order to return inflation sustainably to target.”

Inflation is running at 2.9% – almost an entire percentage point above the bank’s mandated target, with an interest rate hike a possibility as a means to help bring down inflation closer to the 2% target.

At its simplest level, the policy dilemma facing Britain’s central bank is that it must balance surging inflation brought on by the weakened pound since the referendum, with the slowdown in the economy, dwindling consumer spending and declining inward investment. If the central bank keeps interest rates low, the risk is that inflation will get worse. If it raises them, the risk is that it might further dampen the economy.

The weak economy is currently winning out, but the bank’s words on Thursday are the clearest indication yet that it may raise rates in the coming months to help keep inflation down, and that markets are underpricing the chance for a hike in the near future.

Here’s the key paragraph (emphasis ours):

“All MPC members continue to judge that, if the economy follows a path broadly consistent with the August Inflation Report central projection, then monetary policy could need to be tightened by a somewhat greater extent over the forecast period than current market expectations.

“A majority of MPC members judge that, if the economy continues to follow a path consistent with the prospect of a continued erosion of slack and a gradual rise in underlying inflationary pressure then, with the further lessening in the trade-off that this would imply, some withdrawal of monetary stimulus is likely to be appropriate over the coming months in order to return inflation sustainably to target.”

The bank’s hawkish shift pushed the pound higher, with sterling climbing more than 1% against the dollar to pass above $1.33 and hit a high not seen since September last year. Here is the chart at the end of the day in European trade:

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Markets Insider