BoE Governor Bailey's Cautious Tone at Jackson Hole Reflects European Realities

At the recent Jackson Hole symposium, Bank of England (BoE) Governor Andrew Bailey struck a more cautious note in his speech compared to the assertiveness of Fed Chair Jerome Powell. This difference in tone is understandable given the contrasting economic challenges faced by Europe and the United States. Europe has grappled with a more severe energy price shock, primarily driven by supply issues, while the U.S. has experienced stronger demand pressures. This divergence has allowed the Federal Reserve to communicate more decisively about potential rate cuts, supported by signs of weakening labour market demand. In contrast, both the BoE and the European Central Bank (ECB) have already taken steps to reduce rates, reducing the immediacy of further action.

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Governor Bailey emphasized that it is "too early to declare victory" over inflation, noting that inflation has not yet returned to target levels on a sustained basis. He stressed that monetary policy would need to remain "restrictive for sufficiently long" to ensure that inflation is kept in check. However, Bailey also acknowledged progress, noting that the second-round effects of inflation appear to be smaller than anticipated, leading to a "revision down in our assessment of that intrinsic persistence" of inflation.

These remarks did not significantly shift market expectations, with the BoE still on track for another rate cut in November. Only 6 basis points of cuts are currently priced in for the September meeting and given the narrow 5-4 vote margin at the last meeting, a September cut seems unlikely. Nonetheless, there was positive news on the inflation front, with the British Retail Consortium (BRC) reporting that deflation has returned to the high street. In August, shop prices dropped by 0.3% compared to the previous year, marking the first decline in nearly three years as retailers offered discounts to clear excess inventory after a lacklustre summer season.

Despite these developments, the pound has been underperforming within the G10 currencies this month, ranking as the second worst performer. However, it remains the top-performing currency for the year. The combination of a faster decline in inflation and the BoE's expected cautious approach—underscored by Bailey's remarks at Jackson Hole—positions the BoE to offer the most attractive real policy rate among G10 currencies by the middle of next year. This outlook is expected to continue providing support for the pound. We will be revising our GBP forecast upwards in the next Foreign Exchange outlook, scheduled for publication on September 2nd.

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