WHEN WILL UK INTEREST RATES START TO RISE?

[30.06.2021] As advanced economies around the world start to re-open most expect a temporary period of higher inflation driven by excess demand. However, could the added impact of Brexit lead to early interest rate rises in the UK?

As advanced economies, around the world, re-open production bottlenecks are starting to emerge.  On the demand side consumers have all the savings, that they accumulated involuntarily during the various lock-downs, to spend. On the supply side, as the economy re-opens, businesses are struggling to procure sufficient components and to hire workers. So, a burst of inflation, over the next six months seems likely while demand and supply rebalance

However, the outlook for UK inflation also has to consider the impact of Brexit.  There are shortages of materials and components in the UK due to the extra red tape imposed on imports from the EU. The construction industry (around 7% of GDP) has been particularly hard hit by this. Labour shortages are also having a significant impact on some sectors. The food industry is struggling with a delivery driver shortage that is estimated at up to 100,000 workers. Farms are also desperately short of seasonal workers to bring in the harvest. Furthermore around half of UK building firms have reported an inadequate supply of labourers. Overall the previous examples reflect the fact that around 1.3 million workers are estimated to have left the UK since late 2019 (out of a workforce of circa 30 million), while it is also much harder for workers from Europe to move to the UK to take up new jobs.

So, the outlook for UK interest rates has to take seriously the possibility that some workers will be able to take advantage of labour shortages, combined with a spike in inflation, to negotiate significantly higher wages. This would have the effect of making the expected rise in inflation, over the next six months, more permanent. It is for this this reason that we think that the Bank of England will be one of the first central banks to raise interest rates. The UK’s Quantitative Easing programme can be expected to finish by the end of the year. Subsequently, the first interest rate rise could come in the summer of 2022.

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This post was written by Robin