2 Main Factors Keeping the BOE Cautious

During the BOE Inflation Report, Governor Mark Carney named two main factors troubling the U.K. economy. The BOE head, along with other policymakers, shared their economic outlook in front of the U.K. Parliament’s Treasury Committee earlier this week and here’s what they had to say:

1. “Heightened” external risks

First and foremost, BOE Governor Carney explained that the U.K. central bank switched to a less hawkish stance recently and cut their growth forecasts due to “heightened” external risks. He listed the ongoing slowdown in Japan and the looming recession in the euro zone as their main concerns, which might derail the U.K. economy on the recovery tracks.

Apart from that, Carney also noted that prevailing geopolitical tensions  might dampen U.K. growth prospects. Other monetary policy committee members also spoke of the potential downside risks from the conflict in Ukraine and in the Middle East.

2. Weak inflation outlook

When it comes to inflation, Carney reiterated that price pressures are expected to weaken in the coming months and that the annual CPI could fall below 1% soon. That’s far below the central bank’s 2% inflation target!

However, he also assured that inflationary pressures are still expected to pick up afterwards and that this might be enough to restore annual inflation to 2% if wages continue to rise. Recall that the BOE was previously concerned about the lack of wage growth, but recent employment reports are showing green shoots.

This relatively cautious inflation outlook, which was already discussed during the latest BOE monetary policy meeting, was enough for most forex market participants to push back their rate hike expectations for the U.K. central bank. Carney still emphasized that deflation is not one of their concerns for now and that their next move is still likely to be a  rate hike.

“Interest rates are likely to go up, it’s a question of timing and degree as this recovery moves forward,” he said. “The discussions we have been having as a committee, including our most recent discussion, have been about the pace, timing, degree of tightening policy.”

Despite that, the pound still weakened after the event, as market participants were disappointed to know that the BOE isn’t probably gonna hike rates early next year. At best, the timing of the first rate hike could take place during the latter half of 2015, assuming external risks don’t wind up dragging U.K. growth down by then.