Back
One of my abiding memories of the 2010s was that at the start of each year most forecasters (including me to the extent we had a forecast) would say interest rates would surely rise that year and start heading back to the more normal levels we saw pre-2008. Of course, it never really happened. UK interest rates remained anchored at zero for the decade. The US managed to get back to 2.5% in 2019 but even this was deemed to be a mistake and they started cutting again in the second half of that year. It took the shock of Covid, the shuttering of large parts of the economy and the resulting inflation to kickstart interest rates back to more normal levels.
I mention this because for the last 12 months most forecasters have been expecting interest rate cuts. These cuts – for the UK and US at least – keep getting pushed further and further out in to the future. At the start of the week there was a 60% chance of a cut for the UK in June. Now that is effectively zero. At the start of the year markets thought the UK base rate would be around 3.5% at the end of this year. Now that expectation is somewhere between 4.75% and 5.0%.
This week UK PMIs (forward looking industry survey data) came in strong and UK inflation remained above where it needs to be. This is because service sector inflation (and wages in particular) are coming down more slowly than the Bank of England wants. Why cut rates when inflation is above target and the economy is picking up again?
I know this is not what many mortgage borrowers want to hear. The good news I have for them is that wages are rising which helps with mortgage bills and real wages (wages minus inflation) are rising faster as inflation falls. This should help the economy (and, I’d guess would be behind some of that better looking survey data). There are also good reasons to think that a large part of today’s wage inflation is backwards looking (so reacting to previous large inflation prints) and therefore should follow headline inflation down with a lag. Indeed, the Eurozone, where wage inflation pressures are lower, looks odds on to start cutting rates again in June.
When will the pressure start to ease in the UK? Below are the latest Goldman Sachs’ forecasts. As an ex-employee I would like to be able to say that these are cast-iron guarantees of the future. However, my memories of the 2010s mean I treat them with a very large pinch of salt. All I can say is that if interest rates stay higher because the economy stays stronger (which looks to be where we are today) then that, from an investment perspective at least, is a world I can live with.
Chris Brown, CIO
cbrown@ipscap.com
The value of investments may fall as well as rise and you may not get back all capital invested. Past Performance is not a guide to future performance and should not be relied upon. Nothing in this market commentary should be read as or constitutes investment advice.
