Markets are presently pricing assets on the basis that UK interest rates will soon rise, but there are plenty of reasons why such a rate rise may not happen, according to Laith Khalaf, head of investment analysis at AJ Bell.
The Bank of England will announce on Thursday whether it is to lift the UK base rate above the current 0.1 per cent level. That rate was introduced at the start of the pandemic as a way to boost economic confidence.
But as economic growth expectations have been revised sharply upwards, and with inflation expected to reach 4 per cent, and stay at around that level for a year, speculation is mounting that the Bank will raise rates.
The Bank of England’s mandate is to achieve inflation at, or near, 2 per cent.
But Khalaf says the picture is far from clear.
He says: “There are some compelling reasons why the Bank might wait before tightening policy, and it was only six weeks ago that the Monetary Policy Committee voted unanimously to keep interest rates on hold, so a shift to tighter policy would be a sharp U-turn indeed.
"The Bank’s judgement that inflation is transitory hasn’t really been tested, as it’s only six months that CPI has been marginally above target, and in fact the inflation index fell back at the last reading. The data is notoriously unreliable at the moment, thanks to the distortions created by the pandemic, and a synchronised emergence from it in Europe and America.
“The energy crunch has deepened since the committee last met, but is still relatively short-lived, and gas prices have actually been falling in recent days as more supply looks to be coming online from Russia.
"In any case, an interest rate rise in the UK isn’t going to make a blind bit of difference to the global price of oil and gas, though it will heap a bit more pressure on UK consumers at a time when many will be facing higher costs to heat their homes and travel to work. Rising energy costs themselves act as a brake on consumer and business activity, and the Bank may well decide that pouring more cold water on the situation at this juncture could lead to an economic freeze.”
He says rates may not rise due to the volatility of economic data in the current climate, and the fact the inflation is coming from the supply side of the economy, rather than the demand side, and higher interest rates don’t typically fix supply side inflation.