Pill Promises "Significant Policy Response" from Bank of England

Above: File image of Huw Pill. Image © Global Utmaning, Lasse Skog. Modified from original, reproduced under CC licensing, non-commercial.

The Bank of England will talk to markets, in an effort to convince them it has the abilities to tackle surging inflation rates.

This is according to Bank of England Chief Economist, Huw Pill speaking at an event hosted by Barclays.

In an attempt to calm UK gilt markets, and a bruised Pound Sterling, Pill said the central bank was prepared to deliver a "significant policy response" at its November 03 policy meeting.

The comments helped shore up the British Pound as it recovered from record lows against the Dollar and levels below 1.10 against the Euro, reached during Monday's massive sell-off.

The Pound to Euro exchange rate was quoted near 1.1180 in the wake of Pill's comments, having been as low as 1.0793 on Monday.

The recent decline in Sterling comes alongside a surge in UK bond yields as investors demanded greater compensation for holding UK government debt.

These demands followed Chancellor Kwasi Kwarteng's tax cut announcements, made last Friday.

The tax cuts and a multi-billion pound energy price guarantee are to be funded by the issuance of additional debt, at a time of increased fears the global economy is slipping into recession.

"It is hard not to draw conclusion that this will require a significant monetary policy response," Pill said.

Above: The biggest tax cuts were flagged well before the mini Budget: the CT hike cancellation and the NICs reversal.

Economists say that the energy price cap will lower the expected peak in UK inflation for 2022 but that inflation would remain stubbornly higher over a longer period as a result of the fiscal stimulus.

"I do want to flag clearly at this point that in my view the combination of fiscal announcements that we've seen will act as a stimulus," said Pill.

The Bank is tasked with maintaining inflation at 2.0% and will hike interest rates to slow the economy to the extent price rises ease back over coming months.

In light of rising inflation expectations the market is now expecting 200 basis points of hikes over the remainder of 2022, equating to a 100bp hike in November and again in December.

Expectations for an emergency rate hike rose after recent declines in the value of the Pound, but Pill appeared in favour of waiting until November and communicating its intentions to prompt financial markets into tightening.

This 'jawbone' approach means we can expect similar commitments to forceful action by the Bank from other members of the Monetary Policy Committee.

For the Pound to remain supported the Bank must now deliver on what the market is expecting.

Over the course of 2022 the Bank has consistently under delivered against market expectations for the amount of hikes required, and when it did meet these expectations it released dovish forward guidance that inevitably undermined Sterling.

Above: Market implied expectations for the amount of hikes to come out of the Bank of England. Image courtesy of Deutsche Bank.

The big risk is the market enters the November 03 decision to be disappointed once more, making for fresh lows into year-end.

Another risk is markets refuse to wait until November and the Pound takes ongoing punishment in the policy vacuum.

The Pound to Euro exchange rate meanwhile remains vulnerable to further declines amidst a deteriorating global backdrop that is largely a result of rising U.S. interest rates.

Rising rates raise the cost of money on a global level, reducing lending and economic activity.

Falling stock markets and commodity prices are testament to this slowdown, as is the surging U.S. Dollar.

This unhelpful backdrop will likely keep UK assets under pressure, and with it the Pound.

Further declines are therefore highly likely.