(Adds Citi, JP Morgan comments, background)
By William Schomberg
LONDON, March 3 (Reuters) - The yield on two-year British government debt hit a two-and-a-half year low after the U.S. Federal Reserve cut interest rates to offset the impact of the coronavirus, prompting talk about a similar move by the Bank of England.
The yield on two-year gilts, which are highly sensitive to BoE rate expectations, fell as low as 0.208%, down about 6 basis points on the day and its lowest since September 2017.
Benchmark 10-year yields dropped by just 2 basis points on the day to 0.39% and did not match Monday’s six-month low of 0.362%.
Earlier on Tuesday, BoE Governor Mark Carney said he expected a “powerful and timely” global response to the threat posed to the economy by the epidemic, which investors fear could cause a global recession.
But Carney also said he expected different countries would take different measures which could include fiscal stimulus, such as government tax cuts or spending increases.
Economists at Citi said they expected the BoE would cut rates by at least 25 basis points this month, and interest rate futures fully price in a similar move.
But unlike the Fed, which surprised investors with its 50 basis-point cut made between scheduled policy meetings, the UK central bank was likely to wait until March 26, after its next scheduled policy meeting, they wrote in an email.
“First, the BoE may want to keep some powder dry as Brexit puts new cliff edge risks on the horizon,” it said. “Second, the UK government has the opportunity to react to the Covid-19 crisis with fiscal measures in the budget next week.”
Finance minister Rishi Sunak is expected to announce higher public spending in the first budget statement of Prime Minister Boris Johnson’s government on March 11.
Citi said the BoE might also be loath to move as quickly as the Fed because it is in the process of handing over leadership from Carney to Andrew Bailey, and it did not cut rate between meetings even during the 2008 financial crisis.
However, as well as a rate cut, the BoE could allow banks to release capital they hold in buffers against potential losses, which would boost their power to lend, and announce a new scheme of cheap loans for banks and additional liquidity provision.
BoE Deputy Governor Dave Ramsden said on Tuesday that the bank could muster the equivalent of around 250 basis points of rate cuts with the weapons in its armoury.
Karen Ward, chief market strategist for Europe, Middle East and Africa at J.P. Morgan Asset Management, said it was highly likely that the Fed’s move would be followed by other major central banks, including the BoE and the European Central Bank.
“Whilst other developed world central banks have more limited ammunition, they will need to do something if for no other reason than to prevent an appreciation of their currencies,” she said. (Reporting by William Schomberg, editing by David Milliken and John Stonestreet)