Economic Watch: UK’s monetary policy works but falls short of victory

LONDON, Aug. 24 (Xinhua) — At this year’s Jackson Hole Economic Symposium, the Bank of England (BoE) Governor adopted a “cautiously optimistic” tone about inflation in the United Kingdom (UK), suggesting a potential interest rate cut later this year while acknowledging ongoing inflationary pressures.
Speaking on Friday at the global central bankers’ conference in Jackson Hole, the U.S. state of Wyoming, Andrew Bailey, the UK’s central bank chief, said there is evidence that the BoE’s monetary policies may be working, with inflation showing less persistence than anticipated a year ago.
However, Bailey also pointed out that inflation has not yet returned to the bank’s target on a “sustained basis,” and he emphasized that future policies will need to remain restrictive for a sufficient period to ensure that inflation risks are kept close to the bank’s 2-percent target.

MOVING TOWARDS NORMALIZATION
On Aug. 1, the BoE’s Monetary Policy Committee voted by a narrow 5-4 margin to cut the interest rate by 0.25 percentage point to 5 percent, marking the first rate reduction in four years, following the decline of the UK’s headline inflation rate to 2 percent in May.
Bailey emphasized that the disinflation process is “steady and more in line with a soft landing than a recession-driven process,” suggesting that the economic costs of reducing inflation, such as impacts on output and employment, might be lower than feared.
“I’d describe this as a fairly positive outlook on the path for inflation,” said Professor Iain Begg from the London School of Economics and Political Science. “Bailey acknowledges the tough decisions and trade-offs policymakers face, but he believes they’ve navigated these challenges well and are now on course for a more normalized monetary policy.”
Begg told Xinhua that inflation has already dropped to the 2 percent target, placing the UK in a position similar to the Eurozone, where the European Central Bank has also started to reduce interest rates.
“Even the Federal Reserve is getting ready to lower interest rates, despite having higher inflation rates but also stronger economic growth than its European counterparts,” Begg added.
However, Begg noted it is unlikely the central bank will revert to the quantitative easing measures that were in place before the pandemic, which kept interest rates extremely low.
“Over the next three to four years, we should expect inflation and interest rates to settle at more typical levels, providing a positive return on savings rather than a near-zero interest rate,” Begg said.

A CAUTIOUS APPROACH
In addition to expressing cautious optimism, Bailey stressed that the BoE is still evaluating whether persistent elements of inflation have truly declined and whether inflation is consistently hitting its target.
“The BoE needs to be wary of the secondary effects caused by the energy crisis brought on by external conflicts,” said Begg. “The cost-of-living crisis, driven by higher food and energy prices, has increased demands for higher wages, which could, in turn, push domestic inflation and prices higher.”
On Aug. 1, the BoE stated on its website that inflation could rise to around 2.75 percent towards the end of 2024 before declining again, while noting that lower inflation does not mean prices will drop. Most goods will still cost more than they did before.
This scenario could present a challenge for the British government. On Oct. 30, British Chancellor of the Exchequer Rachel Reeves is set to present her first budget statement.
Begg explained that, on the one hand, Chancellor Reeves would like to see the debt-to-gross domestic product ratio fall if the economy grows in nominal terms. On the other hand, she would welcome lower interest rates to reduce the cost of financing government debt.
“Reading between the lines, I’d say Bailey’s speech is fairly positive about the inflation outlook, but it’s also very carefully worded,” Begg said.
“Yes, things are improving, but we need to be cautious. Don’t assume you can spend freely or take on more debt, as that could force us to change our stance,” Begg added. ■