Bank of England Preview: Bailey to break Sterling surge with reluctance to raise rates further

Do I really have to? – that seems to be the thought running in the head of Bank of England (BoE) officials when it comes to raising interest rates. Despite stubborn inflation and wage rises, the "Old Lady" has been foreseeing a slowdown. In its upcoming "Super Thursday" event, the BoE will likely increase borrowing costs, but without a hawkish stance, the Pound may sell off. 

Here is the preview of the Bank of England "Super Thursday” event on May 11 at 11:00 GMT. 

Why the Bank of England is pushed to raise rates

The weather may be cold, but inflation is running hot in the UK: 10.1% in March, significantly above 5% in the US and 6.9% in the Eurozone in the same month. The BoE targets a headline Consumer Price Index (CPI) between 1% and 3%.  

Source: FXStreet

Core CPI, which excludes prices of volatile goods, is also too high at 6.2%, showing that not only elevated energy costs are behind prices rises. A labor shortage and union demands have been buoying wage growth.

Salaries, including bonuses, are up 5.9% YoY as of February, and when excluding them, they are at 6.6%, above the level of Core CPI. 

At the same time, the BoE's interest rate stands at 4.25%, so an increase to 4.5% would only be a catching-up exercise with rising prices. 

Source: FXStreet

Markets to react to BoE Meeting Minutes, Monetary Policy Report, Bailey's presser

The 25 bps rate hike is priced in – Sterling has already advanced in response to the data. Two factors matter for markets: the voting pattern at the Monetary Policy Committee (MPC), and the bank's quarterly Monetary Policy Report (MPR).

In the BoE's previous rate decision, two members voted to leave borrowing costs unchanged, dissenting against the majority of seven people. If the pattern repeats itself despite upbeat data, the Pound will suffer. Any additional member opting to hold would be even worse. 

Sterling would only benefit if at least one of the dissenters switches to align with the majority. An 8:1 vote or 9:0 would be considered a surprising hawkish shift. 
What makes "Super Thursday" super is the quarterly report, which includes inflation forecasts. The BoE previously projected a drop in price pressures. It will probably need to revise them upward, but by how much? 

If Bank of England Governor Andrew Bailey and his colleagues still predict a steep drop in inflation, the Pound would suffer. It would need to show above-target prices for this year and 2024 for the Pound to rise. 

Last but not least, Bailey and several colleagues meet the press at 11:30 GMT, which is the most perilous point for the currency. The governor tends to see the glass half empty. He previously foresaw a recession, suggested workers should refrain from demanding big pay rises, and even cast doubt on further rate hikes. 

Goldman Sachs and other commercial banks see UK rates hitting 5%, matching American ones. Bailey may be asked about his outlook for the "terminal" interest rate. While he is unlikely to answer it directly, he could suggest that no additional move is guaranteed. Uncertainty would also weigh on Sterling. 

Final thoughts

The British economy is experiencing rapid wage growth and faster inflation – yet the data is priced in and the BoE is reluctant to guarantee additional hikes. Sterling may sell off unless Bailey and his colleagues firmly commit to further hawkish moves.