Unlock the Editor’s Digest for free
Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
The Bank of England must approach interest rate cuts carefully as it assesses the impact of the rise in employer national insurance contributions, Andrew Bailey has said.
There are “different ways” in which UK chancellor Rachel Reeves’ decision to increase employer national insurance payments, announced last month in the Budget, may play out, the BoE governor said on Tuesday.
“A gradual approach to removing monetary policy restraint will help us to observe how this plays out, along with other risks to the inflation outlook,” Bailey said in a report to the House of Commons Treasury select committee, arguing that it would take time to assess the ramifications.
Forecasts from the BoE released this month show it expects the Budget to bring higher growth and inflation in the short term, dampening hopes for rapid rate cuts. Consumer price inflation will be running at 2.7 per cent in the final quarter of 2025 — well above its previous forecast of 2.2 per cent, the BoE said.
It will fall below the 2 per cent target only in mid-2027, a full year later than the BoE’s Monetary Policy Committee expected in August.
Bailey on Tuesday said he sees risks in both directions with regards to inflation, even as he reiterated that progress on reducing inflation had been faster than the BoE had expected.
His testimony did nothing to suggest the governor views a further quarter-point reduction as being likely as soon as next month’s meeting.
Part of the uncertainty clouding the outlook is over the impact of the £26bn increase in national insurance contributions. The extra costs could be passed on through higher consumer prices, or companies could absorb them through lower margins, by boosting productivity, or by offering smaller pay rises or shedding workers.
Recent data has also given Bailey “cause to reflect”, the governor said.
Year-ahead expectations for companies’ wage growth in the bank’s decision maker panel survey had stabilised at a higher level of 4 per cent in recent months, for example.
Other data also pointed to a relatively tight labour market, indicating “lingering persistence in wage pressures beyond what we are assuming in our projection”.
Speaking at the same hearing, Alan Taylor, the newest member of the MPC, struck a more dovish note about the policy outlook. He said market pricing pointed to about four quarter-point rate cuts in the next year, and that this pace chimed with the notion of gradualism.
“If conditions are weaker, and my own view is skewed to the downside risks now versus the upside risks of about a year ago, we could go faster,” he said.
Clare Lombardelli, BoE deputy governor for monetary policy, said there had been a fall in services inflation as well as wages, and on top of what has happened to goods prices this suggests the drivers of inflation are “less strong than they have been in the past”.
But she stressed that she still sees “risks on both sides”, emphasising she would be looking “very carefully” at incoming data, including a pay survey by the BoE’s network of regional agents.
Asked about risks of fragmentation in the global trading system, Bailey urged the UK to engage in “active dialogue” about trade with both US President-elect Donald Trump’s administration and Brussels, adding that it must not feel compelled to choose between them.
Bailey said it was too soon to tell how the next US administration’s policies would affect the UK, given that “we literally do not know what their intentions are”.
But Bailey told the committee: “Free trade is not about choosing one area over another . . . We should approach all areas of the world as places we trade with.”
He indicated this meant implementing the post-Brexit settlement with the EU in the best way possible. “I find it hard to understand people who seem to say we should implement Brexit in the most hostile fashion possible.”