UK's first rate increase on the horizon

If the recent UK data flow is put up together, there are signs of emerging inflation pressures from the labour market driven by strong growth which is closing the output gap. However they are being offset by the continuing appreciation of the pound which may have further to run as the market becomes increasingly confident that a rate increase is on the horizon. 

At the same time, there has at least temporarily been a rise in unemployment. Is this the moment to consider the first tightening of monetary policy since July 2007? The Bank of England Governor last week said that "In my view, the decision as to when to start such a process of adjustment will likely come into sharper relief around the turn of this year."

"The downward pressure on the inflation rate is likely to prove temporary and that underlying domestic inflation pressures are rising. But the external risks must not be forgotten", says Societe Generale. 

As the Governor himself stated, "To be sure, the international risks to the growth outlook remain. The situation in Greece is fluid, and the on-going slowdown in China could prove more significant. But on balance, it can be expected that the global economy to proceed at a solid, not spectacular, pace."

The market is now pricing in a significant risk of a November rate hike. That is not absurd but for it to be a serious possibility we need to see these external risks recede. That still looks some way off so we remain happy with our forecast that the MPC will wait until next year before pulling the trigger, most likely in February.