Financial markets are betting the Bank of England will be forced to launch a deep round of interest rate cuts in 2024 amid the growing risk of a recession.
Threadneedle Street is widely expected to leave borrowing costs unchanged on Thursday after warning that interest rates would need to remain high for a prolonged period to tackle stubbornly high inflation.
However, City investors warned that the Bank’s strategy was increasingly at risk of being abandoned next year amid a rapidly worsening outlook for the economy. Official figures showed UK gross domestic product shrank in October.
Money markets moved to price in four quarter-point cuts to interest rates starting from the summer, anticipating the base rate would be slashed from 5.25% to as low as 4.25% by the end of 2024.
The first cut is expected as early as May, to 5%, with further reductions pencilled in for the second half of the year.
Rob Morgan, the chief investment analyst at the wealth manager Charles Stanley Direct, said: “The Bank will be conscious of mounting evidence the economy is under significant pressure, which means a holding pattern for interest rates for now but growing calls for cuts as inflation subsides and economy activity bumps along the bottom.”
With households and businesses under pressure from higher borrowing costs, the Office for National Statistics said GDP fell by a surprise 0.3% in October and that there had been contractions across all main sectors. City economists had forecast zero growth.
Figures from the jobs market this week also showed pay growth was falling sharply and mortgage distress increasing, in further signs that higher interest rates are having an impact on the labour and housing markets in the UK.
Meanwhile, there is growing expectations across advanced economies that a weaker economic backdrop will force the world’s most powerful central banks to row back on their toughest cycle of interest rate hikes in decades.
Inflation in the UK has come down rapidly in recent months, dropping to 4.6% in October, although still remains well above the Bank’s 2% target. Policymakers have also warned that strength in the service sector and a resilient jobs market could embed persistently inflationary pressures.
So far the Bank’s most senior officials have pushed back against expectations in financial markets for a cut in interest rates. Andrew Bailey, its governor, said last month it was “far too early to be thinking about rate cuts” and “much too early to declare victory” on inflation.
However, analysts said there were growing signs of stress in the economy as households and businesses came under sustained pressure from higher borrowing costs after 14 consecutive interest rate increases since December 2021.
Mike Riddell, a fund manager at Allianz Global Investors, said: “It’s no longer about how much higher rates will go; we’re almost certainly at the peak. It’s now about how fast and how soon rates will go back down again.
“As ever, the BoE will be keen to keep all options open, but markets are increasingly disbelieving that the BoE will consider hiking again.”
Meanwhile, a general election is expected next year, after Rishi Sunak made growing the economy one of his central priorities.
Jeremy Hunt, the chancellor, said on Wednesday it was “inevitable” that economic growth would be subdued while interest rates were doing the job of bringing down inflation. “But the big reductions in business taxation announced in the autumn statement mean the economy is now well placed to start growing again,” he added.
Rachel Reeves, the shadow chancellor, said the government was ending the year having failed to meet Sunak’s promise to drive up growth. “Economic growth is going backwards, leaving working people worse off” she said.
“After 13 years the Conservatives have failed on the economy and after the chaos of the past few weeks Rishi Sunak is clearly too weak to deliver for Britain.”