After US rate cut, The Bank of England has decided to maintain the Bank Rate at 4.75% in its latest meeting, as confirmed by the Monetary Policy Committee’s vote. This decision comes despite recent economic indicators showing annual inflation rising to 2.6% in November, services inflation declining to 4.9%.
The Committee examined the risks to global GDP and inflation posed by geopolitical tensions and trade policy uncertainty, with signs of the latter increasing significantly. The new US government has suggested raising tariffs in a way that may influence future global trade if implemented, with some direct and indirect effects on the UK economy. The extent and direction of any such repercussions would be determined by a number of unknown factors, including the complete package of economic policies to be implemented in the United States, their timing, and any future policy reactions from other nations.
The decision to hold rates reflects a cautious approach amidst persistent inflationary pressures and a slowing economy. Bank of England is balancing the need to curb inflation with supporting economic growth. This rate decision also aligns with expectations from various analysts and posts on social media platforms, indicating that the environment for rate cuts might not be favourable yet.
Since the MPC’s November meeting, European wholesale gas prices have risen considerably due to colder weather, increasing demand from Asia, and disruptions in the delivery of Russian-owned gas supplies. By the time the MPC issued its verdict in December, these price rises had been entirely reversed.
Since September, market expectations for policy rates in the United Kingdom and the United States have been significantly divergent from those in the eurozone. The eurozone rate had dropped downward and grown more steeply sloped but the UK and US tracks had risen upward and become shallower. In the United Kingdom and the United States, interest rates were predicted to be between 3.75 and 4% in three years, compared to 2% in the eurozone.
The S&P Global/CIPS UK composite production PMI fell back to slightly over 50 in November and remained there in the December flash report, while the future output and new orders indexes both fell. Both the services and manufacturing PMIs have declined in recent months, suggesting that a combination of domestic and foreign causes were at work. Business confidence had deteriorated further since the previous MPC meeting and business activity was currently weak.
In United States, The Federal Reserve has reduced interest rates by 25 basis points. Interest rates are now in range of 4.25%-4.50% range. US Rate cuts are aimed at stimulating economic growth by encouraging borrowing and spending. Globally, this can lead to a more synchronized easing of monetary policy, as seen with other central banks like the European Central Bank also cutting rates. However there’s a delicate balance as too much easing could reignite inflationary pressures, especially if global growth accelerates. It intends to stimulate U.S. growth but it does have the ripple effects across the world economy. It influences everything from currency values to investment flows, and from commodity prices to inflation expectations.
Rate cut decision marks the third rate cut of the year, following a half-point cut in September and another quarter-point in November. However, this move came with a cautious tone, as Fed officials have projected only two rate cuts for 2025, a reduction from previous expectations, due to concerns over persistent inflation. This latest cut was not unanimous, with Cleveland Fed President Beth Hammack dissenting, preferring to keep rates steady at the previous level. The market’s reaction was negative, with stocks experiencing significant drops, reflecting investor concerns about the Fed’s commitment to further rate reductions in the near future.
Inflation remains above the Fed’s target of 2%. The Fed’s cautious approach is also influenced by the incoming administration’s potential impact on inflation, given President-elect Donald Trump’s proposed policies on tariffs, tax cuts, and immigration. This rate decision reflects the Fed’s ongoing strategy to balance between supporting economic growth and controlling inflation. However, the Fed has signaled that future rate adjustments will be data-dependent, focusing on incoming economic indicators, inflation trends, and the overall health of the labor market.
The Federal Reserve’s decision to cut interest rates has multifaceted impacts on the global economy, influencing various sectors and regions differently. Lower U.S. interest rates can lead to higher stock valuations as borrowing costs decrease, making it cheaper for companies to finance growth and for investors to borrow to invest. A rate cut generally leads to lower yields on U.S. Treasuries, making other government bonds from countries with higher yields relatively more attractive. This can lead to capital flows into emerging markets, seeking better returns.
In 2024, the US dollar has significantly depreciated against several major currencies in anticipation of the Federal Reserve’s first rate decrease since the commencement of the COVID-19 epidemic. It remains to be seen if rate cut could further lead to a weaker U.S. dollar, which can benefit countries whose currencies are pegged to the dollar or those with significant dollar-denominated debt. However, this can also lead to currency volatility particularly in emerging markets where investors might pull out funds in search of higher yields elsewhere. Lower U.S. rates can provide some relief for emerging markets by reducing the cost of borrowing in dollars. However, the anticipation of slower rate cuts has led to concerns about capital outflows and increased volatility in these economies. A lower interest rate environment in the U.S. typically boosts global demand by making credit cheaper, potentially increasing demand for commodities priced in dollars, like oil and gold, though the exact impact can be mixed based on global growth prospects. Exports from countries can become more competitive if their currencies depreciate against the dollar, though this is contingent on other global economic conditions.
Downward trajectory of rates are signalling weaker global economic growth in future, potentially reducing demand for oil and leading to lower oil prices. This scenario would negatively impact Countries like Russia, Saudi Arabia, and other OPEC nations trade balances and fiscal revenues. Emerging Markets like Turkey, Brazil, South Africa have borrowings in U.S. dollars. A rate cut can lead to a weaker dollar, but if it signals slowing global growth, it might not attract the expected capital inflows. Instead, it could lead to capital outflows from these markets as investors seek safer or higher-yield investments elsewhere, increasing borrowing costs or debt burdens as their currencies depreciate against the dollar. Continuous rate cuts will also impact export-based economies like Germany and Japan as exports will become more expensive on the international market, potentially reducing competitiveness. Countries like Nigeria or Argentina, which are sensitive to commodity price fluctuations and have volatile economic conditions, might face increased instability.
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