Economists have indicated that the pace at which UK interest rates decline may be faster than previously anticipated. They point to the release of key data suggesting that inflationary pressures are ultimately easing. However, the first budget to be introduced by the Labour government at the end of this month will prove crucial, as market participants are waiting to assess its economic impact.

As of Tuesday, the money markets have fully priced in the expectation of a 25 basis point rate cut by the Bank of England in November and another 25 basis point cut in December.

This would bring the Bank of England's key interest rate down from a 16-year high of 5.25% at the beginning of the year to 4.5% by the end of the year. Market pricing also shows further rate cuts by the Bank of England to 4% by May 2025 and to 3.5% by December 2025.

Nevertheless, economists at Goldman Sachs predicted in a report on Monday that the Bank of England's rate cuts would be "significantly larger than market pricing." Their expectations are based on calculations of a neutral real interest rate of 0.8% for the second quarter of 2024, a rapid decline in UK inflation, and dovish comments from Bank of England policymakers.

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As a result, they anticipate that the Bank of England's key interest rate will be cut by 25 basis points consecutively, dropping to 3% as early as September 2025 and to 2.75% by next November.

Senior economist at Moody's Analytics, David Muir, stated in a report last week that recent data has reinforced expectations for another rate cut by the Bank of England in November. If positive news surrounding inflation continues, the Bank of England may even cut rates at a slightly faster pace than we currently anticipate. That being said, there is a high degree of uncertainty surrounding the economic outlook, and rate expectations will be sensitive to what is announced in the government's budget.

The trajectory of the UK's key interest rates is as follows:

The UK's overall inflation rate dropped from 2.2% in August to 1.7% in September, lower than the forecasts of economists surveyed by Reuters and below the Bank of England's 2% target, marking the first time in three and a half years.

As shown in the graph below, UK inflation is below the central bank's 2% target.

Economists have stated that the UK's biggest risk comes from within. The Labour government, elected in July, has indicated that the budget in October will be a significant reshuffling aimed at revitalizing the country's sluggish economic growth.UK Prime Minister Starmer warned that the budget will be "painful" for the nation, as it needs to make up for the £22 billion financing gap that the government claims was left by the previous administration—some members dispute this figure. Finance Minister Reeves stated last month that the country will not return to "austerity," but reiterated that tough decisions need to be made before the Labour Party fully implements the changes it desires.

The Labour Party's message introduces considerable uncertainty regarding how to achieve significant fiscal consolidation, especially when the government has already ruled out the possibility of increasing income, sales, and major business taxes. It is currently unclear what future measures will be taken in terms of expenditure cuts or industry stimulation.

AXA Group's Chief Economist, Moec, stated that the Bank of England should take into account the upcoming "front-loaded fiscal consolidation work" and accelerate monetary easing.

However, Deutsche Bank economist Sanjay Raja said on Monday that expectations are growing for fiscal policy in the budget to be more relaxed than previously anticipated.

Raja released new forecasts, expecting bank rates to rise continuously in the coming months, reaching 3.75% by May 2025, and then to cut rates once every quarter until they reach 3%. However, he said that a relaxed fiscal policy could cause the Bank of England to pause at an interest rate of 3.75%.

The UK economy is facing severe challenges, and further rate cuts are expected to provide much-needed support for the UK economy. Analyst Lindsay James from Quilter Investors pointed out in his report that UK public finances are on the brink of collapse, with the growth in public debt in September exceeding expectations. Although the current inflation rate has not reached the target, the Bank of England may still take rate-cutting measures at the interest rate meeting in November. Rate cuts are expected to boost consumer confidence, thereby increasing government revenue and playing a positive role in economic recovery.

Pound to US Dollar daily chart, Beijing time October 23, 9:18, the pound to US dollar is reported at 1.2974/75.