BoE Review: A cautious cut

• Macro view: The BoE cut rates by 25bp to 3.75% as expected, with Bailey the key swing voter in a 5-4 split. This was a hawkish cut with officials keen to resist making kneejerk reactions to this week’s soft labour market and CPI data. The guidance still signals a gradual downward path ahead for Bank Rate but the minutes warn that further easing will be a “closer call”. Hawkish concerns centre on still-elevated pay growth with annual settlements for 2026 still tracking around 3.5%. We stick with our call for two further cuts next year but the timing will depend on incoming data. Our view is that progress on pay will prompt the next move in spring in the context of a soft macro backdrop and clear labour market slack.
• Markets view: The BoE caution today has helped reduce expectations of the next rate cut coming in Q1. We still expect a March cut given our assumption of the disinflation progress continuing. Front-end rates can fall further and hence the pound strength we see today is unlikely to persist.

Macro view: A cautious cut which looks inconsistent with the data flow

The BoE is cautiously feeling its way to neutral

The BoE cut rates by 25bp, as expected, to 3.75% after this week’s CPI and labour market data gave Governor Bailey the green light to swap sides and vote to ease policy further. But this was a hawkish cut in the context of this week’s data which showed headline inflation (3.2%) below the BoE’s projection (3.4%) and clear signs of labour market loosening. The BoE is clearly resistant to making any kneejerk reactions to those figures as it feels its way to a neutral setting.

The core guidance remained (“Bank Rate is likely to continue on a gradual downward path”) but the caveat that “judgements around further policy easing will become a closer call” was added. More significantly, the vote split was 5-4 again, which was somewhat surprising after the data releases this week, which we thought could have prompted one of the hawks to vote for a cut. The MPC is clearly deeply divided and expects to remain so.

Persistently high wage growth remains a key concern. This week’s wage numbers were broadly in line with the BoE’s projections despite the evidence of increased labour market slack. The latest BoE Agents’ survey noted early indications are that annual pay settlements for 2026 are still expected to be around 3.5%, too high for comfort for several MPC members. On the CPI side, the fall in headline inflation was largely driven by volatile components, perhaps with some distortions from early Black Friday discounting which could reverse in December. Underlying services inflation edged higher, even if the broader trend remains downwards.

Looking ahead, this fragmentation is set to endure. That reflects varying views on where the neutral policy setting lies, but also wariness around making a policy mistake with the minutes noting that reversing overly fast or deep cuts “could undermine credibility”.

In this context, Governor Bailey will clearly remain the key swing voter. In his comments today he wrote that while he sees “scope for some additional policy easing, the path for Bank Rate cannot be pre-judged with precision, recognising in part the more limited space as Bank Rate approaches a neutral level.” Last time out, Bailey seemed to endorse market pricing and a Taylor-rule implied path for rates to fall to 3.3-3.4% later next year and there is no indication of any change in view today. Looking through the other comments, the hawks generally seem steadfast in their views despite recent data, but Catherine Mann seems closer to voting for a cut (“My decision was quite finely balanced”).

Progress on underlying services inflation is proving slow

Expected pay growth remains a touch too high for comfort

The easing cycle has further to run

We stick with our call for a terminal rate of 3.25% (i.e. two more cuts in 2025) but the division on the MPC makes the timing difficult to judge. Decisions to cut are likely to remain finely balanced.

The minutes noted that Budget policies are expected to reduce CPI inflation by around 0.5pp for a year, in line with the OBR’s assessment and Lombardelli’s comments at the Treasury Select Committee. Combined with lower energy pricing, BoE staff have lowered “their expectation for CPI inflation to closer to 2% in 2026 Q2”.

However, a back-to-back move would be clearly hard to tally with the guidance for gradual easing, despite the likelihood of a chunky downgrade to the BoE’s inflation projections. There’s not a huge amount of data between the meetings: just one CPI print, which might show the headline rate edging higher as some of the volatile factors in the November print reverse, and one labour market report.

UK employment continues to fall…

…and redundancy notifications have reached seasonal highs

Further ahead, a continuation of the current cut-hold-hold-cut pace may seem the default path (i.e. with the next cut in April). But data on wage settlements and inflation expectations will be key. Against a soft macro backdrop and in the context of clear labour market slack, we suspect that clearer evidence of easing pay pressures could prompt more easing in March. Further ahead policymakers will have the April inflation data (which is likely to show a significant step down towards target) to hand at the June meeting, which again could provide the basis for another cut. We acknowledge that risks are tilted to a slower pace of easing after today’s communication. Bailey will remain cautious and it was notable in the comments that Ramsden, a soft dove, suggested “there could be scope to slow [the] cadence of easing in due course”. But our sense is that the BoE is being too cautious and will have to recalibrate its approach next year in response to incoming data.

Summary of recent MPC votes – Governor Bailey is the key swing voter                                                                        

Markets view: GBP support as BoE signals caution

BoE caution unlikely to support GBP for long

We had been flagging the risk of the MPC today being a little more unified in their decision to cut following the jobs and inflation data releases this week. That wasn’t the case and we only managed to get the bare minimum shift in voting to agree the cut today. Furthermore, the summaries from the four hawks who dissented today do not scream a big chance of a sudden shift in their thinking. Catherine Mann, whose decision was “finely balanced” is the one who could shift but for the others wage concerns (Greene & Lombardelli) and structural price and wage-setting concerns (Pill) suggest it could take longer for their views to change.

Both the Decision Making Panel and BoE Agents’ data on wage setting behaviour will be key and the next releases will be in February. Greene, Lombardelli and Pill mentioned these data. Based on the actual conditions in the labour market it seems more likely than not that these should help eases the concerns of the hawks and we still see scope for monetary easing in Q1. We thought February was a possibility prior to today but no see March as more likely. The OIS market currently is priced at less than 50% probability of a cut at that meeting so we see the incoming data being supportive of lifting that probability and driving front-end yields lower over the coming months.

We believe that scenario will keep our view of pound underperformance within G10 with EUR/GBP set to drift higher. We still see GBP/USD moving higher especially now following the much weaker than expected CPI data in the US. Market participants will probably be dubious of the accuracy of the data but it still points to downside US dollar risks. The more hawkish takeaways from the MPC may mean though that the performance of the pound is a little better than expected over the short-term but as Q1 unfold next year we still expect renewed pound underperformance. Leveraged Funds’ long pound positions have been lightened considerably but we do not see the outcome of today’s meeting as providing justification for the rebuilding of those positions at this stage. If the labour market data was to suddenly improve that would be a more credible catalyst for a turn in sentiment amongst speculators.

LEVERAGED FUNDS HAVE CUT LONG GBP POSITIONS NOTABLY

Source: Bloomberg, Macrobond & MUFG GMR