Rate hike could still come sooner than markets think

Markets have revised their expectations for interest rates significantly, such that they now expect the first rise in Bank Rate to occur in Q1 next year, some four months earlier than they did at the start of this year. There appears to be a couple of catalysts for this revision. First, the latest business surveys provided an encouraging sign that the UK’s economic recovery regained some momentum at the start of the year, after ending 2014 on a fairly weak note. Second, a strong batch of labour market data in the US increased the chance that the US Federal Reserve would press ahead and raise interest rates there this summer. Given the upbeat prospects for the UK recovery this year, and the low risk that deflation becomes ingrained, there is certainly a chance that February’s Inflation Report strikes a more hawkish tone and so causes markets to further revise their expectations. Indeed, we still think that it is more likely than not that the MPC raises interest rates before the end of 2015.