Bank of England’s Rate Path: Gradual Cuts Amid a Foggy Outlook

Published 04/08/2025, 07:59
Updated 04/08/2025, 09:00

The Bank of England is expected to lower its key interest rate for the fifth consecutive time this Thursday. The move would mark another cautious step in unwinding the restrictive stance it has held for years—even as inflation remains stubbornly above target and labor market slack becomes more visible. Policymakers are walking a fine line between supporting growth and anchoring price stability, in an environment clouded by noisy data and geopolitical uncertainty.

In many respects, the BOE finds itself facing a similar dilemma to the Federal Reserve. The current inflation spike stems largely from fiscal policy changes—namely, shifts in energy pricing and taxation. While most committee members expect price pressures to ease as growth continues to stagnate, a premature easing cycle could undercut progress.

Yet, other members argue that inflation risks are fading, and continued tight monetary policy could drive the economy into a deeper slowdown. For them, rising unemployment is the more pressing concern.

The Monetary Policy Committee’s solution so far has been predictable: quarter-point cuts every three months. This allows the bank to retain a restrictive stance while gradually easing financial conditions. Thursday’s expected cut would maintain that rhythm.

Morgan Stanley (NYSE:MS) economists write: “The MPC is wary of both labour market and inflation risks… we struggle to see how the path forward can be anything but more of the same.”

External risks further complicate the policy picture. While the U.K. has secured a relatively favorable tariff arrangement with the U.S., uncertainty lingers around other major trade partners like China and India. BOE officials have emphasized that the long-term impact of tariffs on global growth will determine how they feed into domestic inflation and employment trends.

Export-driven strength early in the year—fueled by U.S. stockpiling ahead of tariff increases—has faded. Like its European neighbors, the U.K. saw a slowdown in Q2, a worrying sign for policymakers already grappling with sluggish investment and tightening fiscal policy.

The persistent inflationary backdrop is being complicated by weak labor market dynamics. Inflation ticked up to 3.6% in June, even as more workers found themselves sidelined. The challenge for the BOE is clear: how to tame inflation without deepening the labor market slowdown?

Given this tension, economists expect another split vote on Thursday. A 5-2-2 division seems likely, though some expect a 7-1-1 breakdown. Whatever the result, the BOE is expected to reinforce its commitment to gradualism. Its updated forecasts are unlikely to diverge much from those released in May.

Conclusion: The BOE’s Risk Management Tightrope

Rate cuts are likely to continue beyond this week, driven by headwinds ranging from tightening fiscal policy to trade friction and investment weakness. Michael Saunders, former MPC member and Oxford Economics adviser, warns that disinflationary forces may grow stronger as trade realigns away from China. The BOE’s cautious, quarter-point cadence may be its best tool to manage this uncertain terrain—but it’s a path that offers little room for missteps.

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