The Bank of England is expected to announce on Thursday (September 17) that it will keep the interest rate unchanged at 3.75%. A survey last week showed that most economists expect the Bank of England to keep rates unchanged for the remainder of the year, with only three of the nine members of the Monetary Policy Committee expecting to vote for a rate hike this week. Limited division within the Monetary Policy Committee is the baseline scenario for this decision.

Market and economists diverge: 80% probability of a November rate hike vs. 1/8 probability.

Financial markets and economists are sharply divided on the prospect of a Bank of England rate hike in November. As of Wednesday, market pricing indicated an approximately 80% probability of a 25 basis point hike in November, seen as the first of about four rate hikes anticipated by investors over the next year. In contrast, only about one-eighth of economists surveyed by the media expect action in November, with the majority still favoring maintaining rates unchanged or making only limited adjustments throughout the year. The core of this divergence lies in differing assessments of the sustainability of the energy price shock. Markets have more quickly priced in the recent surge in oil and gas prices, believing that upside risks to inflation have increased significantly and that policy tightening is necessary to prevent a second wave. Economists, on the other hand, are more concerned about a cooling labor market, a weakening economic outlook, and current tight financial conditions, believing the central bank has room to observe data before making a decision. This gap in expectations is particularly pronounced in the UK, highlighting that the market is more sensitive to policy path than professional forecasts.

Energy Shock: Natural Gas and Crude Oil Prices Jump Nearly 20% This Month

Both UK gas and Brent crude futures prices jumped nearly 20% this month, directly driven by supply concerns stemming from the escalating conflict with Iran. This surge has prompted both the European Central Bank and the Federal Reserve to raise interest rates, with the Fed acting on Wednesday and hinting at further tightening. Higher energy costs have significantly increased the risk of inflation in the UK, with the inflation rate reaching 3.1% in August, further deviating from the Bank of England's 2% target. In the past five years, the Bank of England has only successfully kept inflation near its target for three months, indicating long-term pressure on price stability. Rising energy prices, transmitted through household bills, transportation costs, and industrial inputs, could push up core inflation expectations. Analysts point out that if prices remain high, inflation may have peaked at 3.9% in February, forcing policymakers to reassess the neutral interest rate level. The ongoing conflict, coupled with low inventory levels, further amplifies short-term supply uncertainty, becoming a key variable in current policy discussions.

Institutional Views: November Rate Hike Expectations vs. Holding Rates Steady

Economists from prominent institutions suggest the Bank of England is likely to keep interest rates unchanged this week to avoid fueling market expectations of a rapid tightening cycle, but still anticipate a rate hike in November. They argue that given energy price trends pointing to inflation peaking at 3.9% in February, the Bank of England has clear reasons not to delay further. Other institutions are less certain. Some analysts point out that the gap between market pricing and policymakers' expectations is most pronounced in the UK, with the interest rate market anticipating approximately 4.5 rate hikes over the next year, while the central bank leadership still hopes to avoid rate hikes altogether. The governor told reporters at his final meeting not to interpret his stance as a move towards rate hikes. An asset management firm stated this week that UK government bonds look particularly attractive, citing a cooling labor market and a softening economic outlook pointing to a more accommodative policy than the market is pricing in.

Treasury bond sales plan: Potentially halting sales of long-term treasury bonds, or even exiting the secondary market.

Besides the interest rate decision, bond investors are closely watching the Bank of England's annual update on its balance sheet reduction plan. Reports indicate the central bank may halt the sale of 20-year and 30-year bonds, which have suffered significant losses in the global bond sell-off. This move is expected to create more fiscal space ahead of the Chancellor's first budget statement on October 28th, potentially saving the government approximately £2.5 billion annually. Further reports suggest the central bank may completely cease active sales of bonds in the secondary market, transferring all supply responsibilities to the Office of Government Debt Management. Strategists point out that this would make the Office of Government Debt Management the sole supplier in the bond market, giving it complete control over issuance pace and maturity structure. This adjustment reflects weak long-term demand and increased market volatility; the central bank hopes to reduce additional pressure on the yield curve by decreasing active sales while continuing to pursue its quantitative tightening target through non-renewal of maturing bonds.

In summary: the resolution itself is not the key point; the energy pathway and national debt plan are the crucial factors.

In summary, the Bank of England keeping interest rates unchanged on Thursday was the baseline scenario, but there was a significant divergence between market and economists' expectations for a November rate hike, with the path of energy prices being a key variable. Further increases in energy costs would strengthen the market's already priced-in case for a November rate hike; conversely, a cooling labor market and stronger signs of economic weakness would support keeping rates unchanged. Updates to the bond-selling program are also crucial: halting the sale of long-term bonds or withdrawing them from the secondary market would alleviate long-term supply pressures and potentially provide the Chancellor with budgetary space. The exposure of the pound and the UK interest rate market lies more in the path of oil and gas prices and the bond-selling program than in Thursday's decision to hold rates steady.