Markets still sanguine on rate outlook

Unsurprisingly December’s uneventful Monetary Policy Committee (MPC) meeting barely caused a ripple in financial markets, leaving market participants’ expectations for future interest rates all but unchanged. But we suspect that market expectations for the next rate rise to come in late-2018 or 2019 will prove overly dovish. That stems from our relatively optimistic view on demand. We expect the economy to expand by around 2% next year, well above the 1.4% consensus forecast. Meanwhile, both surveys of salaries and evidence of increasing difficulty recruiting workers suggest the acceleration in wage growth that the Committee has been watching for is already in the pipeline. As a result, we expect the MPC to surprise markets and other forecasters with its hawkishness again next year. We have pencilled in 25bp hike in May, followed by further increases alongside the August and November Inflation Reports.