• Two committee members urge 50 percentage point rate cut
• Bank signals only two reductions necessary to hit CPI target

Bank of England officials decided to cut interest rates to a 19-month low, with two supporting a bumper 50-basis-point cut, prompting markets to boost bets on further easing.

The nine-member Monetary Policy Committee lowered the bank’s benchmark rate by a quarter point to 4.5%, the third such reduction since August. Two external policymakers — Swati Dhingra and Catherine Mann, who has been one of the panel’s most hawkish voices — wanted a half-point cut, while Governor Andrew Bailey and the others supported a smaller move.

Still, the MPC signaled a “gradual and careful approach” to future rate cuts, suggesting in their forecasts that only two more reductions were needed to bring inflation back to the 2% target. Policymakers also dealt a blow to Chancellor of the Exchequer Rachel Reeves, warning that inflation would rise “quite sharply” to peak at 3.7% later this year — compared with a projection of 2.8% in November — and downgraded growth forecasts.

“Some domestic inflationary pressures remain and may have eased a little more slowly than we expected last year,” Bailey told reporters after the decision. “And that reaffirms the importance of taking a gradual approach to the withdrawal of monetary policy restrictiveness.”

Traders generally focused on the calls from two policymakers for a sharper reduction, adding to bets on future interest-rate cuts. Money markets are now favoring three more 25-basis-point reductions this year.

That hurt the pound, which extended declines versus the dollar dropping as much as 1.2% to $1.2361. It was the worst-performer among major currencies on Thursday. Two-year gilt yields fell as much as seven basis to 4.07%.

The BOE Warns of Slower Growth, Faster Inflation

Source: Bank of England

“At the margin, we interpret this is a green light for the market to price a lower terminal rate,” said Matthew Landon, global market strategist at J.P. Morgan Private Bank. “Today’s cut from the Bank of England was broadly expected, though the accompanying statement contained some mixed signals.”

The MPC’s decision to reduce its benchmark rate to the lowest level since June 2023 represents a reprieve for the more-than-half-a-million homeowners coming off five-year fixed mortgage deals this year. Reeves called the decision “welcome news,” but expressed disappointment with the broader outlook provided by the bank saying she was “still not satisfied with the growth rate.”

The addition of the word “careful” to the bank’s core guidance for future easing reflected questions about the global economy, according to Bailey. “We live in an uncertain world, and the road ahead will have bumps,” he said.

While the vote split could be read as dovish — economists had expected an 8-1 split, with Mann still supporting a hold in rates — updated forecasts painted a more challenging picture. The market path for rates used to build the forecast has just two further cuts over the next three years, with policy settling at 4%.

Under that scenario, only one more cut is fully priced for this year to 4.25% and inflation returns to target in the fourth quarter of 2027. The implication is that policy needs to be much tighter than the four cuts this year to 3.75% that Bailey appeared to endorse in December. A higher path of inflation was to blame, driven by energy and water bills and regulated prices like bus fares.

The Bank of England Sees More Painful Jobs Market

Unemployment rate

Source: Bank of England

Rob Wood, chief UK economist for Pantheon Macroeconomics, said he placed “more weight” on the bank’s hawkish inflation forecasts, a relatively strong pay settlements survey and its overall guidance “than the votes of two outliers.”

Bailey seemed to support that view in remarks to reporters after the decision: “I would not overinterpret any other moves in voting patterns,” he said, adding that “it’s important that the view on the future path of interest rates is based on the economic fundamentals.”

Also behind the change was a downgrade to the bank’s estimate of UK growth capacity, which makes faster growth inflationary. It halved its estimate to 0.75% this year but expects potential growth to return to 1.5% from 2026. The bank blamed the downgrade on persistently weak productivity and suggested Labour’s increased spending on the National Health Service may make the position worse.

The bank’s outlook is a bleak backdrop for Reeves, who has presided over a collapse in growth since Labour won the general election last July. The BOE believes the economy contracted 0.1% in the three months to December, the quarter that included Reeves’ tax-raising budget on Oct. 30, and will grow just 0.1% in the first quarter of 2025.

The growth forecast for this year has been halved to 0.75% but picks up to 1.5% in 2026 and 2027, from the prior projection of 1.25% in both years. The bank said its forecast is “not conditional on any change in global tariffs” but that a trade war could depress UK growth by “delaying investment spending and hiring decisions.”

Labour’s Policies Will Push Up Inflation in 2025

Projected contributions to cumulative change in CPI inflation from December 2024

Source: Bank of England

Reeves’ budget tax rises, including a £26 billion ($32 billion) increase in employers’ National Insurance Contributions, are weighing on the short term outlook. Business sentiment has been “weak” and if that persists growth could be even worse than expected, the BOE warned.

There were no material changes to the bank’s forecasts following Reeves’ recently announced plans to boost growth by relaxing regulations and waving through infrastructure projects.

“It is hard to see the Bank of England materially stepping up its pace of easing until it sees how the increase in National Insurance is digested by the economy in the spring,” said Luke Bartholomew, deputy chief Economist at Abrdn. “However, the Bank’s signals today suggest there is scope for several more rate cuts this year, given the weak growth outlook, and we continue to see rates below 3% over the next two years.”