The Bank of England's Bailey suggests that a more restrictive policy may be necessary due to labor market shocks.

• In a Friday speech, Bank of England Governor Andrew Bailey will praise the advancements made in reducing inflation in the U.K. However, he will also warn that monetary policy may need to remain tight for a longer period of time due to unexpected shocks from the labor market.
• Bailey believes that the risks to persistent inflation are lower than they were a year ago, and he places most weight on a scenario in which the persistence is essentially self-correcting with the degree of restriction we have in place today easing off over time.
• He will warn that two less "favorable" situations may arise, necessitating the Bank of England to keep restrictions in place for a longer period.

In a Friday speech, Bank of England Governor Andrew Bailey will celebrate the advancements made in reducing inflation in the U.K. However, he will also warn that monetary policy may need to remain tight for a longer period of time due to unexpected shocks from the labor market.

Bailey is expected to say in a speech at the U.S. Federal Reserve's central bank symposium in Jackson Hole, Wyoming that headline inflation has "fallen sharply as energy and food price shocks in particular have fallen away," while higher rates have helped tackle so-called second round effects such as wage growth and price-setting.

The BOE's 2% target for headline price rises in the U.K. was met for two months this year, before reaching 2.2% in July.

Bailey will state that the risks to persistent inflation are lower than a year ago, and he believes that the persistence is essentially self-correcting with the degree of restriction we have in place today easing off over time.

He will warn that two less "favorable" situations may arise, necessitating the Bank of England to keep restrictions in place for a longer period.

He is expected to say that the structural changes in product and labor markets suggest lasting changes in the supply side of the economy as a result of the major shocks we have experienced.

Jerome Powell, the Federal Reserve Chair, has given his strongest indication yet that interest rate cuts are imminent for the world's largest central bank, stating, "It's time for policy adjustments."

The U.K.'s dominant sector, services inflation, remains above 5%, while BOE policymakers have consistently raised concerns about the slow rate of wage growth and tight job market.

The BOE made its first interest rate cut of 25 basis points in August, but kept market participants uncertain until the last minute about whether it would maintain them steady due to internal division among its voting members, with a 5-vote margin in favor of cutting the rate.

According to LSEG data, markets have almost fully priced in another 50 basis points of cuts this year.

Bailey will say on Friday that the economic costs of reducing persistent inflation, including lower output and higher unemployment, may be less severe than in the past.

"This aligns with a gradual deflation process that is less severe and resembles a soft landing rather than a recession-triggered one."

This year, the U.K. economy has emerged from a brief and shallow recession in 2023, with GDP expanding by 0.7% and 0.6% in the first and second quarters, respectively.