After a long stretch of high inflation, the Bank of England finally has its 2 percent inflation target firmly within its sights.
The central bank said on Thursday that it expected inflation to reach its target in two years, and then go even lower, a forecast that comes as policymakers inch toward cutting interest rates.
The majority of the bank’s nine-person rate-setting committee voted this week to hold rates at 5.25 percent, the highest since early 2018 and where they have been for nine months. But two members voted to cut rates, compared with just one at the previous meeting in March. And Andrew Bailey, the bank’s governor, added that, although it was too soon to cut interest rates this week, the slowdown in inflation had been “encouraging.”
Inflation has been in line with expectations recently, which is “an indication that we are now getting back to more normal times — at least compared to the highly unusual period we have been living through with a global pandemic and a major war in Europe,” Mr. Bailey said at a news conference.
Before they cut rates, policymakers are waiting for more data to determine if they are “sufficiently confident” that inflation is on track.
By the bank’s next meeting in June, policymakers will have much more economic information, including two months of inflation and labor market reports.
“A change in bank rate in June is neither ruled out nor a fait accompli,” Mr. Bailey said.
Investors have recently been betting that the Bank of England will cut rates in August and one more time by the end of the year. After the announcement on Thursday, expectations for a cut in June grew, with markets implying a roughly 50 percent probability of a move.
For much of the next year and a half, the bank expects inflation to be around 2.5 percent. But inflation will fall to 1.9 percent in early 2026, the bank forecast, and 1.6 percent in three years. Though inflation has retreated a long way from its recent peak, when it climbed above 11 percent in late 2022, the central bank is wary of prematurely declaring victory.
Like many other central banks, the Bank of England is trying to find the delicate balance between cutting interest rates as inflation slows toward its target and not overly easing monetary policy because of the risk of resurging inflationary pressures.
The United States has provided a potential warning. The Federal Reserve is expected to hold off on rate cuts as data shows price pressures are still strong in the United States. In March, consumer prices rose 3.5 percent from a year earlier, higher than economists’ forecast. But across Europe, confidence is growing that high inflation has dissipated and that rate cuts could support the weak economy. On Wednesday, Sweden’s central bank cut rates, and policymakers at the European Central Bank have said they expect to follow suit next month.
Britain lies in a tricky position somewhere in between. When the inflation reading for April is published in two weeks, it is expected to show that price growth slowed to the central bank’s 2 percent target because of the effect of lower household energy bills. That would be down from 3.2 percent in March. But the Bank of England is treading carefully.
Some aspects of inflation are still running relatively hot. Both average annual wage growth and services inflation were at 6 percent. That is still too high for some policymakers to feel certain that inflation will sustainably slow to 2 percent.
“We haven’t vanquished inflation yet,” said Tera Allas, director of research and economics at McKinsey’s Britain and Ireland office and a former economist in the civil service. Though inflation will fall further this year, she said, she expects it to be “really volatile.”
“We’ll get into something like the U.S. situation, where it’s no longer a clean line” of lower inflation, Ms. Allas said. “It will be up and down and up and down, but I suspect at a level lower than the U.S.”
This will all be against a backdrop of lackluster economic growth. The central bank forecast that the British economy will expand just 0.5 percent this year and 1 percent next year. Much of the increase is due to a growing population. At the same time, consumer spending is forecast to support economic growth as average wages rise faster than inflation and employment levels remain relatively strong, the bank said. But other factors will weigh on the economy, such as constrained government spending and high interest rates discouraging investment and lending.
On Thursday, the National Institute of Economic and Social Research said it expected the central bank to wait until August to begin rate cuts, and then lower rates once again this year and twice next year, gradually declining after that until the rate is settled at 3.25 percent.
Paula Bejarano Carbo, an associate economist at the institute, said the caution among central bankers was “reasonable” given there were still risks that inflation could go higher because of price pressures from, for example, the services sector.