City Economists Disagree with Market Expectations on Interest Rate Hikes
Financial markets are predicting a sharp tightening cycle for the Bank of England, with interest rates expected to rise to 4.75% by next summer. However, a number of City experts believe this is unlikely, citing a lack of evidence that energy costs are pushing up other prices sharply.
According to market-implied interest rate expectations, the Bank of England is likely to raise interest rates at least four times over the next year, lifting the bank rate from 3.75% today to 4.75% by the end of July. However, economists such as James Smith, a developed markets economist at ING, and Sanjay Raja, the chief UK economist at Deutsche Bank, doubt that the Bank will raise rates as fast as the market pricing suggests.
Smith believes that the Bank could be sounding the all-clear by next spring and cutting rates again by the end of next year. Raja also doubts that the Bank will hike to 5% by the end of next year, citing that most mainstream forecasters do not believe this will happen. He has calculated that a lot of the forecast interest rate rises is actually "baked-in risk premia" – where investors require an extra return to protect them from uncertainty or instability.
Deutsche Bank's base case is for the Bank of England to take the bank rate to 4.25% by next February and then hold rates there until the end of 2027. Other experts, such as Oxford Economics, also think the UK rate-raising cycle will be much less pronounced than what is currently priced into financial markets.
