Britain’s short-term cost of borrowing has surged to its highest level in nearly two and a half years, as the City prices in a UK interest rate rise soon.
The yield, or interest rate, on two-year UK gilts has jumped to its highest since May 2019 this morning.
Two-year gilt yields hit 0.75%, up from just 0.57% on Friday night.
Rising gilt yields are a sign that traders are expecting UK interest rates to rise soon, in an attempt to combat inflation.
The yield on 10-year gilt yields have also risen (from 1.1% to 1.15%), close to the two and a half-year highs seen last week.
The moves comes after the governor of the Bank of England warned it will “have to act” to curb rising inflation, sending a new signal that it is gearing up to raise interest rates.
Andrew Bailey said he continued to believe the recent jump in inflation would be temporary, but he predicted a surge in energy prices would push it higher and make its climb last longer, increasing the risk of higher inflation expectations.
“Monetary policy cannot solve supply-side problems – but it will have to act and must do so if we see a risk, particularly to medium-term inflation and to medium-term inflation expectations,” Bailey said on Sunday.
During an online panel discussion organised by the Group of 30 consultative group Bailey explained:
“And that’s why we at the Bank of England have signalled, and this is another such signal, that we will have to act.
But of course that action comes in our monetary policy meetings.”
The Bank has two more MPC meetings this year, on 4th November and then 16th December.
The Bank recently predicted that inflation will rise over 4% early next year, or more than double its 2% target. The surge in energy prices are adding to inflationary pressures, bolstering rate rise expectations.
Jeremy Thomson-Cook, chief economist at international business payments specialist Equals Money, points out that investors are now pricing in several rate hikes by the end of next year….
…even though UK growth isn’t exactly sparkling.
With markets already fully pricing in a rate hike of 0.15% this year and three more next year, taking the base rate up to 1%, Bailey’s comments are unlikely to push GBP [the pound] significantly higher.
But despite the upbeat rhetoric, Johnson’s government faces an unfortunate fact: the UK’s economy isn’t growing at the rate they desire. August’s GDP figures only rose by 0.4%, which means Q3 growth will likely come in at only half of the Bank of England’s 3% forecast. The economy is still 5% smaller than it would have been if growth had continued on its 2010 to 2019 pre-pandemic trajectory; in contrast, the U.S. achieved this by Q2 2021.