Monetary Policy Summary

The Bank of England’s Monetary Policy Committee (MPC) sets monetary policy to meet the 2% inflation target, and in a way that helps to sustain growth and employment. At its meeting ending on 8 May 2024, the MPC voted by a majority of 7–2 to maintain Bank Rate at 5.25%. Two members preferred to reduce Bank Rate by 0.25 percentage points, to 5%.

The Committee’s updated projections for activity and inflation are set out in the accompanying May Monetary Policy Report and are conditioned on a market-implied path for Bank Rate that declines from 5¼% to 3¾% by the end of the forecast period, compared with an endpoint of 3¼% in February.

Internationally, recent growth outturns have tended to be stronger in the United States than in the euro area. Underlying inflationary pressures in both regions have continued to moderate somewhat since the start of the year, though by less than expected in the United States. Forward interest rates have risen in the United States and, as a result, elsewhere.

Following modest weakness last year, UK GDP is expected to have risen by 0.4% in 2024 Q1 and to grow by 0.2% in Q2. Despite picking up during the forecast period, demand growth is expected to remain weaker than potential supply growth throughout most of that period. A margin of economic slack is projected to emerge during 2024 and 2025 and to remain thereafter, in part reflecting the continued restrictive stance of monetary policy.

With respect to indicators of inflation persistence, services consumer price inflation has declined but remains elevated, at 6.0% in March. There remains considerable uncertainty around statistics derived from the ONS Labour Force Survey. It is therefore more difficult to gauge the evolution of the labour market. Based on a broad set of indicators, the MPC judges that the labour market continues to loosen but that it remains relatively tight by historical standards. Annual private sector regular average weekly earnings growth declined to 6.0% in the three months to February, although that series tends to be volatile. Alternative indicators also suggest easing pay growth.

Twelve-month CPI inflation fell to 3.2% in March from 3.4% in February. CPI inflation is expected to return to close to the 2% target in the near term, but to increase slightly in the second half of this year, to around 2½%, owing to the unwinding of energy-related base effects. There continue to be upside risks to the near-term inflation outlook from geopolitical factors, although developments in the Middle East have had a limited impact on oil prices so far.

Conditioned on market interest rates and reflecting a margin of slack in the economy, CPI inflation is projected to be 1.9% in two years’ time and 1.6% in three years in the May Report.

The MPC’s remit is clear that the inflation target applies at all times, reflecting the primacy of price stability in the UK monetary policy framework. The framework recognises that there will be occasions when inflation will depart from the target as a result of shocks and disturbances. Monetary policy will ensure that CPI inflation returns to the 2% target sustainably in the medium term.

At this meeting, the Committee voted to maintain Bank Rate at 5.25%. Headline CPI inflation has continued to fall back, in part owing to base effects and external effects from goods prices. The restrictive stance of monetary policy is weighing on activity in the real economy, is leading to a looser labour market and is bearing down on inflationary pressures. Key indicators of inflation persistence are moderating broadly as expected, although they remain elevated.

Monetary policy will need to remain restrictive for sufficiently long to return inflation to the 2% target sustainably in the medium term in line with the MPC’s remit. The Committee has judged since last autumn that monetary policy needs to be restrictive for an extended period of time until the risk of inflation becoming embedded above the 2% target dissipates.

The MPC remains prepared to adjust monetary policy as warranted by economic data to return inflation to the 2% target sustainably. It will therefore continue to monitor closely indications of persistent inflationary pressures and resilience in the economy as a whole, including a range of measures of the underlying tightness of labour market conditions, wage growth and services price inflation. The Committee will consider forthcoming data releases and how these inform the assessment that the risks from inflation persistence are receding. On that basis, the Committee will keep under review for how long Bank Rate should be maintained at its current level.

1: The economic outlook

Chart 1.1: CPI inflation and CPI inflation excluding energy ^(a)

Footnotes

• Sources: Bloomberg Finance L.P., ONS and Bank calculations.
• (a) Energy prices include fuels and lubricants, electricity, gas and other fuels.

1.1: The conditioning assumptions underlying the MPC’s projections

As set out in Table 1.B, the MPC’s May projections are conditioned on:

• The higher paths for policy rates in advanced economies implied by financial markets, as captured in the 15-working day averages of forward interest rates to 29 April (Chart 2.7). The market-implied path for Bank Rate in the United Kingdom has risen by 0.7 percentage points on average over the next three years compared with the equivalent period at the time of the February Report. The path for Bank Rate underpinning the May projections declines from 5¼% to 3¾% by the end of the forecast period, compared with an endpoint of 3¼% in February.
• A path for the sterling effective exchange rate index that is broadly unchanged compared to the February Report. The exchange rate depreciates slightly over the forecast period, reflecting the role of expected interest rate differentials in the Committee’s conditioning assumption.
• Wholesale energy prices that follow their respective futures curves over the forecast period. Since February, oil prices have risen somewhat and gas futures prices are broadly unchanged (Chart 2.3). Significant uncertainty remains around the outlook for wholesale energy prices, including related to recent geopolitical developments (Key judgement 3).
• UK household energy prices that move in line with Bank staff estimates of the Ofgem price cap implied by the path of wholesale gas and electricity prices (Section 2.4).
• Fiscal policy that evolves in line with announced UK government policies to date. As discussed in Section 2.3, additional measures were announced in Spring Budget 2024, including a further 2 pence cut in the main rate of employee and self-employed national insurance contributions from April 2024.
• The growth in the size and composition of the 16+ population implied by the ONS’s 2021-based interim national population projections, which reflects international migration up to mid-2023. These data were published at the end of January 2024 and so were not incorporated into the MPC’s February projections.

1.2: Key judgements and risks

1.2: Key judgement 1

Following modest weakness last year, four-quarter GDP growth is expected to pick up during the forecast period.

UK GDP is expected to have risen by 0.4% in 2024 Q1 and to grow by 0.2% in Q2, stronger than expected in the February Report (Section 2.3). That follows weaker than expected GDP in the second half of last year, however, leaving activity at a similar level by the middle of this year as in the February projection. Household consumption was also weak during the second half of last year, but is expected to pick up throughout 2024, supported by a continued recovery in real incomes. That in turn partly reflects the continued unwinding of the shocks to energy and other imported goods prices experienced over recent years, and the effect of lower national insurance contributions. Real post-tax labour income is now expected to grow by over 3% in 2024 as a whole (Table 1.D).

The policies announced in the Spring Budget, including the further reduction in national insurance contributions, are expected to boost the level of GDP by over ¼% relative to the February Report projections. As these measures are also likely to boost potential supply, including through higher labour market participation, the implications for the MPC’s output gap projection (Key judgement 2), and hence inflationary pressures in the economy, are projected to be smaller.

After taking account of all announced government plans, and given that the impact of past fiscal loosening measures, including those related to the pandemic and the energy price shock, continues to fade, the stance of fiscal policy tightens over the projection. This pulls down on the Committee’s GDP growth projection beyond the near term.

Based on the average relationships over the past between Bank Rate and economic activity, Bank staff estimate that under current and expected financial conditions around two thirds of the peak domestic impact of higher interest rates on the level of GDP has come through. The negative impact on the level of GDP from the remaining pass-through continues to build over the first half of the forecast period. There is nevertheless a fading negative impact on the rate of GDP growth from past increases in Bank Rate and the downward-sloping market-implied path of forward interest rates, which begin to boost growth at the end of the period.

As discussed in the previous Report, the ONS’s updated population projections were not available in time to be reflected in the Committee’s February supply-side stocktake. The May projections are now conditioned on the most recent ONS population projections (Section 1.1), run forward after taking account of the starting point implied by the latest LFS population data (Box D). For example, the 16+ population is now assumed to rise by around 1% per year in the medium term, compared with around ¾% previously. All else equal, this raises significantly the paths of labour supply and potential output over the forecast period, relative to the February Report. In the May projection, aggregate supply growth is projected to rise to around 1¾% in the middle of the forecast period and to average 1½% over the next three years. A higher path for the population is assumed to have similar impacts on both supply and demand, and thus only a limited impact on spare capacity in the economy (Key judgement 2). Further upward revisions to the LFS population data are to be expected in the future.

There remain notable differences in patterns of international economic activity, with recent growth outturns tending to be stronger in the US and weaker in the euro area (Section 2.1). Activity in the euro area is projected to pick up in the near term, accounted for by the fading impact of tighter monetary policy and by stronger real incomes. US GDP growth is expected to slow somewhat over the forecast period, as the boost from consumer dis-saving fades and as potential supply growth, which has been strong, falls back to more normal rates. In the May Report, the path of global growth is broadly similar to February. Annual UK-weighted world GDP growth is projected to rise in the medium term, to slightly below its average rate in the decade prior to the pandemic (Table 1.D).

Overall, in the Committee’s May projection, UK four-quarter GDP growth is projected to pick up during the forecast period, to just over 1½% by the end of the forecast period (Chart 1.2). That reflects the fading negative impact on growth from past increases in Bank Rate and the downward-sloping market-implied path of forward interest rates, which begin to boost growth at the end of the period. Population growth is assumed to be higher throughout the forecast period. During the first half of the period, the pickup in GDP growth also reflects fiscal policy and the boost to real incomes from the continued unwinding of the previous shocks to energy and other imported goods prices.

Relative to the February Report projection, the level of GDP has been revised up by around ½% by the end of the forecast period, accounted for by stronger assumed population growth and the fiscal loosening measures in the Spring Budget. Compared with February, the rise in the market path of interest rates over recent months pushes down on GDP, all else equal, although this is partly offset by developments in other financial conditions.

Chart 1.2: GDP growth projection based on market interest rate expectations, other policy measures as announced

Footnotes

• The fan chart depicts the probability of various outcomes for GDP growth. It has been conditioned on Bank Rate following a path implied by market yields, but allows the Committee’s judgement on the risks around the other conditioning assumptions set out in Section 1.1, including wholesale energy prices, to affect the calibration of the fan chart skew. To the left of the shaded area, the distribution reflects uncertainty around revisions to the data over the past. To the right of the shaded area, the distribution reflects uncertainty over the evolution of GDP growth in the future. If economic circumstances identical to today’s were to prevail on 100 occasions, the MPC’s best collective judgement is that the mature estimate of GDP growth would lie within the darkest central band on only 30 of those occasions. The fan chart is constructed so that outturns are also expected to lie within each pair of the lighter aqua areas on 30 occasions. In any particular quarter of the forecast period, GDP growth is therefore expected to lie somewhere within the fan on 90 out of 100 occasions. And on the remaining 10 out of 100 occasions GDP growth can fall anywhere outside the aqua area of the fan chart. Over the forecast period, this has been depicted by the grey background. See the Box on page 39 of the November 2007 Inflation Report for a fuller description of the fan chart and what it represents. The y-axis of the chart has been truncated to illustrate more clearly the current uncertainty around the path of GDP growth, as otherwise this would be obscured by the volatility of GDP growth during the pandemic.

In the GDP projection conditioned on the alternative assumption of constant interest rates at 5.25% over the forecast period, growth is weaker compared with the MPC’s projection conditioned on the declining path of market-implied rates.

The risks around the projection for UK GDP growth are judged to be broadly balanced.

There are risks in both directions around the central projections for domestic spending and GDP. The Committee will continue to monitor closely the impact of past increases in Bank Rate, including the channels through which house prices affect consumer spending. In the near term, there may be upside risks to GDP growth from stronger demand if some households choose to save less or run down existing stocks of savings to a greater extent. Respondents to the latest Bank/NMG survey have become more optimistic about their job security, financial prospects and expected real income growth. Set against that, the Bank’s Agents have reported subdued consumer demand at the start of this year (Box E). And the household saving ratio is expected to be downward sloping in the medium term, which may not arise given the projected rising path of unemployment (Key judgement 2).

Internationally, the risk of higher commodity prices and disruption to trade flows associated with developments in the Middle East could lead to weaker economic activity as well as greater external inflationary pressures (Key judgement 3). There is also a downside risk to global growth if domestic demand in China proves to be softer than expected, for example due to weakness in the property sector.

1.2: Key judgement 2

Aggregate demand and supply are judged to be broadly in balance currently, but a margin of economic slack is projected to emerge during 2024 and 2025 and to remain thereafter, in part reflecting the continued restrictive stance of monetary policy. Unemployment is expected to rise somewhat.

Following a period over the past couple of years in which the economy was operating with excess demand, aggregate demand and supply are judged to be broadly in balance currently. Over the past year, businesses appear to have responded to short-term weakness in demand by retaining their existing employees, while using them somewhat less intensively.

The MPC is continuing to consider the collective steer from a wide range of data to inform its view on labour market developments. As discussed in Box D, there remains considerable uncertainty around statistics derived from the ONS Labour Force Survey, making it more difficult to gauge the evolution of the labour market. Although work is underway to replace it, the LFS will remain a key source of labour market data for some time to come. The latest LFS data appear to suggest that the unemployment rate has increased slightly over the past year, but that there is no longer any sign that the inactivity rate has fallen over the same period (Chart 2.14). Underlying employment growth has slowed but remained positive in recent quarters. Overall, based on a broad set of indicators, the MPC judges that the labour market continues to loosen but that it remains relatively tight by historical standards.

Despite picking up during the forecast period, demand growth is expected to remain weaker than potential supply growth throughout most of that period, such that a margin of economic slack is projected to emerge during 2024 and 2025 and to remain thereafter. That in part reflects the continued restrictive stance of monetary policy. Aggregate excess supply is expected to reach around 1¼% of potential GDP by the start of 2026, compared with around 1% of GDP in the February Report. This slightly greater margin of excess supply relative to February reflects the impact on demand from the recent rise in the market path of interest rates.

Uncertainty around LFS data notwithstanding, the unemployment rate is projected to rise somewhat over the first half of the forecast period, such that it exceeds the assumed medium-term equilibrium rate of just over 4½% by the middle of next year. The unemployment rate reaches around 4¾% by the end of 2025 (Chart 1.3), a slightly lower path for unemployment than in the February Report. Some of the slack in the labour market that is expected to emerge over the forecast period also reflects weakness in the participation rate. Employment growth is stronger than in the February Report throughout the forecast period, reflecting the updated population growth assumption.

Chart 1.3: Unemployment rate projection based on market interest rate expectations, other policy measures as announced

Footnotes

• The fan chart depicts the probability of various future outcomes for the ILO definition of unemployment and begins in 2024 Q1. Although LFS unemployment data have recently been re-instated by the ONS, they are badged as official statistics in development and the LFS continues to suffer from very low response rates, which can introduce volatility and potentially non-response bias (Box D). The fan chart has been conditioned on Bank Rate following a path implied by market yields, but allows the Committee’s judgement on the risks around the other conditioning assumptions set out in Section 1.1, including wholesale energy prices, to affect the calibration of the fan chart skew. The coloured bands have the same interpretation as in Chart 1.2 and portray 90% of the probability distribution. A significant proportion of this distribution lies below Bank staff’s current estimate of the long-term equilibrium unemployment rate. There is therefore uncertainty about the precise calibration of this fan chart.

In projections conditioned on the alternative assumption of constant interest rates at 5.25% over the forecast period, the unemployment rate rises to a greater extent compared with the MPC’s projection conditioned on market rates.

The risks around the unemployment rate projection are judged to be broadly balanced.

Reflecting the continuing uncertainties around interpreting estimates from the LFS, there are risks in both directions around the recent path of the unemployment rate, and hence the outlook for unemployment and labour market tightness. The labour market could remain tighter or looser than assumed for a number of economic reasons, including the risks around the outlook for demand (Key judgement 1). There is also continuing significant uncertainty around the Committee’s assumptions for the path of the equilibrium rate of unemployment, news in which would, holding demand fixed, have implications for labour market tightness and inflationary pressures.

Based on the data available at the time of its supply stocktake published in the February Report, the MPC judged that the Covid-related drag on potential participation might be unwinding faster than anticipated. This now stands in contrast to the latest indications from the aggregate LFS participation series. There are considerable uncertainties around these data, however, and an alternative approach suggests that the participation rate could be significantly higher than currently estimated (Section 2.3).

1.2: Key judgement 3

CPI inflation is expected to return to close to the 2% target in the near term, but to increase slightly in the second half of this year owing to the unwinding of energy-related base effects, which reveals the persistence of domestic inflationary pressures. The Committee expects second-round effects in domestic prices and wages to take longer to unwind than they did to emerge. The best collective judgement of the Committee is that these second-round effects are likely to fade slightly faster than assumed previously, pushing down on the latest CPI inflation projection during the third year of the forecast period.

Twelve-month CPI inflation remains above the MPC’s 2% target, but it declined to 3½% in 2024 Q1 and to 3.2% in March, broadly in line with expectations in the February Report. Inflation is projected to return to close to the 2% target throughout the second quarter of this year, before increasing slightly in Q3 and in Q4, to around 2½%. This profile of CPI inflation over the second half of the year is more than accounted for by developments in the direct energy price contribution to 12-month inflation, which is projected to become less negative during Q3 and Q4 compared with Q2 (Chart 1.1). CPI inflation excluding energy is projected to be around 3% during the second half of the year, owing to the persistence of domestic inflationary pressures.

As part of the May forecast round, Bank staff have reviewed the degree to which past increases in import prices are yet to pass through to consumer prices. Based on recent developments in producer and consumer goods prices, the MPC now judges that a greater proportion of that pass-through has occurred already, relative to the assumptions incorporated into previous inflation projections. A shorter than usual lag between changes in import and consumer prices may have reflected the nature of the external shock, including that it was associated with acute shortages of products. This was a large external cost shock facing almost all companies in some form. This behaviour may have reflected domestic economic conditions to some extent as well, as companies were likely to have had greater than usual pricing power to pass on cost increases. As a result of this change in judgement, external inflationary pressures on the CPI are likely to be somewhat weaker than previously assumed, particularly during the first half of the forecast period.

The MPC is continuing to monitor closely indications of persistent inflationary pressures and resilience in the UK economy as a whole, including a range of measures of the underlying tightness of labour market conditions (Key judgement 2), wage growth and services price inflation.

Services CPI inflation fell to 6.0% in March, slightly higher than expected in the February Report. Higher-frequency measures of services price inflation show a somewhat greater slowdown than annual rates but still indicate elevated domestic inflationary pressures (Section 3.3). Services inflation is expected to continue to ease gradually over the course of this year, as wage growth and indirect effects from energy and other goods prices weaken further.

Annual private sector regular AWE growth declined to 6.0% in the three months to February, slightly higher than expected in the February Report, and broadly in line with alternative indicators of wage growth. Recent outturns in wage growth have continued to be stronger than standard models would have predicted (Chart 3.10). Private sector regular AWE growth is nevertheless expected to slow further in the near term, to around 5% during the rest of this year, compared with 4¾% in the February Report.

As part of this forecast round, the Committee has reviewed its judgement that second-round effects in wages and domestic prices will take longer to unwind than they did to emerge. Specifically, the February CPI inflation projection assumed that this metric of the degree of excess persistence would build marginally further in the near term before tapering off over coming years but remaining present at the end of the forecast period. Based on the latest evidence and modelling presented by Bank staff (Section 3), the best collective judgement of the Committee is that these second-round effects on domestic prices and wages are likely to fade slightly faster than assumed previously, pushing down on the latest CPI inflation projection during the third year of the forecast period. There remains considerable uncertainty around the calibration of this judgement and a range of views among MPC members (as set out in the subsequent risks sub-section).

In the MPC’s modal, or most likely, projection conditioned on the higher market-implied path of interest rates as captured in the 15-working day average to 29 April, CPI inflation increases from close to the 2% target in 2024 Q2 to around 2½% at the turn of the year. Reflecting the continued restrictive stance of monetary policy and a margin of slack in the economy (Key judgement 2), CPI inflation then falls back again, to 1.9% in two years’ time and to 1.6% in three years (Table 1.C and Chart 1.4).

The May CPI inflation projection has a broadly similar trajectory to the February projection, but it is slightly lower next year and, to a somewhat greater extent, in the medium term, reaching the 2% target two quarters earlier than in February. This lower profile in part reflects weaker external inflationary pressures following the Committee’s revised judgement on the pace of previous import price pass-through. In the medium term, it also reflects the building impact on inflation of a slightly greater margin of excess supply in this forecast conditioned on the latest market interest rate path, and the Committee’s judgement to unwind slightly earlier in this forecast its judgement on the degree of medium-term persistence in domestic prices.

In the MPC’s May projection, private sector regular AWE growth falls further during 2025 and reaches just under 3% by the end of the forecast period, as short-term inflation expectations are assumed to fall back further and a margin of spare capacity is expected to open up in the labour market in the medium term (Key judgement 2). This is a similar medium-term profile for AWE growth as in the February Report.

Chart 1.4: CPI inflation projection based on market interest rate expectations, other policy measures as announced

Footnotes

• The fan chart depicts the probability of various future outcomes for CPI inflation and begins in 2024 Q2. It has been conditioned on Bank Rate following a path implied by market yields, but allows the Committee’s judgement on the risks around the other conditioning assumptions set out in Section 1.1, including wholesale energy prices, to affect the calibration of the fan chart skew. If economic circumstances identical to today’s were to prevail on 100 occasions, the MPC’s best collective judgement is that inflation in any particular quarter would lie within the darkest central band on only 30 of those occasions. The fan chart is constructed so that outturns of inflation are also expected to lie within each pair of the lighter orange areas on 30 occasions. In any particular quarter of the forecast period, inflation is therefore expected to lie somewhere within the fans on 90 out of 100 occasions. And on the remaining 10 out of 100 occasions inflation can fall anywhere outside the orange area of the fan chart. Over the forecast period, this has been depicted by the grey background. See the Box on pages 48–49 of the May 2002 Inflation Report for a fuller description of the fan chart and what it represents.

In the modal projection conditioned on the alternative assumption of constant interest rates at 5.25% over the forecast period, CPI inflation is expected to fall below 2% from 2025 Q4 onwards. This path is lower than the Committee’s modal projection conditioned on market rates.

There continue to be upside risks to the modal CPI inflation projection from geopolitical factors during the first half of the forecast period, but the risks overall are more evenly balanced over the second half.

There are near-term risks in both directions around the path of CPI inflation from domestic factors, including related to developments later this year in pay settlements and in companies’ price-setting behaviour. The Bank’s Agents continue to report that settlements will average around 5½% this year, with higher outturns expected in consumer-facing sectors owing to the impact of the increase in the National Living Wage. The latest Agency intelligence also suggests, however, that companies’ relatively downbeat view of recent consumer demand could limit the extent to which they are able to pass on increases in costs to their prices.

In the medium term, there are also risks around the judgement that second-round effects in domestic prices and wages take longer to unwind than they did to emerge.

To the downside, the recent accumulation of evidence could support an earlier tapering of the Committee’s persistence judgement than has been incorporated into the May projection during the third year of the forecast period. As headline inflation and short-term inflation expectations fall further (Section 2.5), inflationary dynamics could adjust as rapidly on the downside as they did on the upside. Less persistence could also reflect the continued unwind of the previous shocks to energy and other imported goods prices, which may be limiting the extent to which employees and domestic firms are seeking higher nominal pay and domestic selling prices to recover the reductions in real incomes that they experienced in the past.

To the upside, in the absence of clear evidence from recent developments that domestic inflationary pressures have moderated significantly, there could be a case for maintaining the previous persistence judgement from the February Report across the full forecast period. The possibility of some upside risks to demand or downside risks to supply could, via a smaller margin of spare capacity in the economy and given a relatively tight starting point for the labour market, also motivate a higher medium-term profile for domestically generated inflation.

Overall, the risks around the Committee’s latest best collective judgement on the persistence of domestic price pressures are evenly balanced, following an extended period in 2022–23 during which they were skewed to the upside.

There remain upside risks around the modal projection for UK CPI inflation from international factors. Geopolitical risks have intensified following events in the Middle East, although there has so far been a relatively limited impact on trade and oil prices. The impact of a further intensification on oil prices could, over a number of quarters, be mitigated to some extent by flexibility in other sources of oil production. Nevertheless, in an adverse scenario, oil prices could still increase significantly in the short run, alongside greater disruption to all types of trade flowing through the Red Sea. If this were to be amplified by other financial market and economic channels including additional second-round effects on domestic wages and prices, it could lead to a material upward impact on UK CPI inflation over the first half of the forecast period relative to the modal projection. Set against that, recent weakness in Chinese export prices could pose a modest downside risk to UK inflation if it were to intensify, for example alongside softer Chinese activity.

Table 1.D: Indicative projections consistent with the MPC's modal forecast ^{(a) (b)}

2: Current economic conditions