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Bank of England may cut rates more aggressively as inflation eases, warns Andrew Bailey

October 3, 2024

Andrew Bailey, Governor of the Bank of England, has indicated that the Bank may take a more aggressive stance on cutting interest rates if inflation continues to decline.

However, he cautioned that escalating tensions in the Middle East could lead to a sharp rise in oil prices, which would complicate the Bank’s policy outlook.

Speaking to The Guardian, Bailey suggested that the Monetary Policy Committee (MPC) could quicken the pace of policy loosening should inflationary pressures continue to ease. “There’s a possibility we could be a bit more aggressive in lowering rates if inflation keeps dissipating,” he said. This has already put downward pressure on the pound, which fell by 1.05 per cent to $1.31, although part of this drop was attributed to traders seeking safer assets amidst the intensifying conflict between Israel and Iran.

Bailey, who has been at the helm of the Bank since 2020, voiced concerns about the situation in the Middle East, warning of the potential for a 1970s-style oil crisis if tensions escalate further. “The conversations I’ve had with counterparts in the region suggest there’s currently a strong commitment to keep the market stable,” Bailey said, but he added that control over oil markets could deteriorate if the conflict worsens. He pointed to past experiences where oil price surges significantly impacted monetary policy, noting the role that oil played in driving inflation during the 1970s.

The UK has experienced a sharp drop in inflation, which peaked at 11.1 per cent in October 2022 but has since fallen to 2.2 per cent. Despite this progress, oil prices have surged in recent days, driven by the latest developments in the Middle East. Brent Crude and WTI, the global benchmarks, both climbed to over $70 a barrel following Israel’s incursion into southern Lebanon and Iran’s retaliatory missile strikes.

These rising prices come after a year of declining demand from China and speculation that Saudi Arabia could increase supply, trends that had been pushing prices down earlier in 2023. The current uncertainty has prompted the MPC to adopt a cautious approach. The Committee voted 8-1 to hold the UK base rate at 5 per cent during its last meeting, and although they implemented a 25-basis-point cut in August—the first reduction since March 2020—traders are expecting another cut next month.

Bailey also responded to criticism from former Prime Minister Liz Truss, who accused him of being part of a left-wing economic cabal that undermined her brief premiership. Referring to the pension crisis triggered by Truss’s mini-budget, Bailey remarked, “We came in and used our intervention tools to deal with the financial stability issue. It’s ironic that someone critical of regulators then says the problem was that the Bank of England wasn’t regulating enough.”

The pension crisis followed Truss’s controversial £45 billion package of unfunded tax cuts, which caused a sharp rise in interest rates and forced down bond prices, creating liquidity issues for pension funds. The Bank of England was compelled to step in with a limited bond-buying programme to restore market stability.

Looking ahead, Bailey praised Chancellor Rachel Reeves for her focus on encouraging capital investment to address climate change and stagnant productivity growth. He also acknowledged the challenges posed by Labour’s handling of the economy since taking office in July, as the government prepares for its first Budget on 30th October. While taxes are expected to rise, the Chancellor plans to mitigate the impact through greater public investment in key sectors.