Sofia Carollo and Natalie Burr

While monetary policy sets short-term policy rates, households and firms borrow at varying time horizons. How a policy decision reshapes the whole yield curve therefore matters. We trace the reactions of yields in narrow windows around UK monetary policy announcements across two dimensions: a ‘level’ surprise that shifts the entire curve and a ‘slope’ surprise that changes its steepness. We find that a level surprise affects CPI inflation more than a slope surprise does; this result is difficult to recover from surprises that conflate the two dimensions. So, the policy rate tells only part of the story: two curves considered equivalent from a stance perspective can lead to different inflation outcomes. Policymakers must be attuned to these differing effects.

The whole yield curve matters for monetary policy transmission

The Monetary Policy Committee (MPC) sets Bank Rate, the overnight policy rate. But that is not a rate households or firms ever really pay (Burr and Willems (2024)). What they face are deposit rates, mortgage rates, or other borrowing costs, and these stretch across different horizons, from overnight loans to mortgages spanning decades.

Measuring the effects of monetary policy therefore means looking at the whole curve, not just one rate, and cleanly separating out the effects on the curve that stem from a given policy announcement from other factors. Changes in Bank Rate anchor the very short end of the yield curve, but a policy decision can ripple across the entire curve. Such effects can be intended by policymakers – via unconventional tools such as quantitative easing and forward guidance (Busetto et al (2022)) or via policymakers’ communication about the outlook and likely path of policy. At the same time, the yield curve is not entirely under the control of monetary policy makers – other factors such as expectations of future rates, the economic outlook, expected future fiscal policy, and risk premia also influence both the level, and steepness of the curve.

Measuring level and slope effects

Rather than tracking isolated shifts at individual maturities on the curve, we separately trace movements to the level and slope of the curve. This is important as movements in long rates are correlated with movements in short rates but reach the economy through different channels. This assessment also matters for better understanding the interaction between conventional and unconventional policy tools on macro-outcomes (Mann (2025)). The level and slope factors capture the primary dimensions along which yields move and have become standard tools for analysing yield curve dynamics (Litterman and Scheinkman (1991)).

Following Odendahl et al (2024), we decompose UK monetary policy into its effects on the ‘level’ and ‘slope’ of the yield curve. We rely on a mix of spot and forward rates to represent the whole curve: 3 month and 1 year spot rates, plus the 1y1y, 2y1y, 4y1y and 9y1y forward rates. A forward rate is agreed today for borrowing over a future window, so 2y1y is the one-year rate expected to apply in two years. Unlike long dated spot rates, which average expected short rates across multiple horizons, forward rates isolate specific points on the curve and therefore provide a cleaner read on how different maturities shape it.

To identify monetary policy surprises, we track yield movements in 30-minute windows around 305 UK monetary policy announcements since operational independence in 1997, based on the database from Braun et al (2025). The high-frequency approach of using narrow windows around announcements gives us confidence that the observed yield movements reflect monetary policy rather than other news.

We then summarise these surprise movements in yields using principal component analysis (PCA), which filters out idiosyncratic volatility and extracts the common movements across maturities. Just two factors explain around 75% of the variation in yields on MPC announcement days. The first resembles a near parallel shift in the curve, which we interpret as a level factor, while the second captures changes in its steepness, which we interpret as a slope factor. Importantly, these patterns emerge from the data rather than being imposed a priori. Note that our factors are empirical approximations of joint yield dynamics that resemble level and slope effects but are not structurally modelled, so the resulting level shock isn’t a completely parallel shift, and the slope shock isn’t a uniform tilt.

Chart 1: Principal components across spot and forward yields ^{(a) (b)}

Sources: Authors’ calculations using yield curve data from Bloomberg Finance L.P., Tradeweb and Bank calculations.

(a) First principal component, level factor.
(b) Second principal component, slope factor.

From the PCA loadings, we then construct level and slope surprises for each announcement as weighted sums of yield surprises across maturities. Lined up by date, these form the level and slope surprise series shown below. These surprise series provide empirical measures of the two dimensions through which monetary policy announcements move the yield curve. We use them as proxies for level and slope monetary policy shocks in the macroeconomic analysis that follows.

Chart 2: Monetary policy surprises: level and slope components over time ^{(a) (b)}

Sources: Authors’ calculations using yield curve data from Bloomberg Finance L.P., Tradeweb and Bank calculations.

(a) Surprises to the level of the curve.
(b) Surprises to the slope of the curve.

Tracing the macroeconomic effects from ‘level’ and ‘slope’ monetary policy shocks

How do the ‘level’ and ‘slope’ monetary policy shocks affect the UK macroeconomy? To quantify this, we estimate a Bayesian vector autoregression (BVAR). Building on the proxy SVAR framework of Arias et al (2021), that allows for multiple external instruments, the proxies enter jointly as two external instruments. Because the PCA factors are orthogonal by construction, the impulse responses represent the marginal effect of each shock independently of the other.

The model is estimated as a single VAR in log-levels on monthly data. The variables include UK nominal spot and forward yields at various horizons (3m, 1y, 1y1y, 4y1y and 9y1y), UK asset prices (£ERI, FTSE All Share, Investment Grade Corporate Bond Spreads) and seasonally adjusted real GDP and CPI, in levels. Our level and slope surprise series serve as external instruments, include in the VAR to proxy the shocks. The VAR includes 12 lags, and the sample period is June 1997 to December 2019. 

Level and slope shocks generate different macroeconomic outcomes

We start by asking what happens when gilt yields fall across the whole curve. A negative level shock, normalised to a 25-basis-point decline in the 1y yield, leads to a significant fall in yields across maturities on impact (Chart 3). Further, we observe a decline in credit spreads, rise in equity prices and depreciation of the exchange rate indicate a broad easing in financial conditions, supporting both demand and inflation. Indeed, GDP picks up gradually, with the largest gain after about a year. The consumer price level responds with a delay, rising just under a year after the shock and notably after the pickup in output. A positive, statistically significant price response is not easily obtained in UK data, where small VARs often produce a price puzzle. Our results may point to the value of using the full yield curve to build the shocks: separating level from slope separates two dimensions of curve variation, so the price response to a level shock is less likely to be diluted by slope movements.

Chart 3: Impulse response functions to a 25-basis-point negative level shock

In contrast, a slope shock steepens the curve by easing short‑term rates while tightening further out. A positive slope shock, ie, a 25-basis-point on-impact fall in short‑term yields, boosts GDP while leaving CPI broadly unchanged (Chart 4). While our linear framework implies that a flattening shock would produce symmetric effects in the opposite direction, monetary policy transmission may be asymmetric, with easing and tightening having different macroeconomic effects – as shown by Busetto (2024) and Stenner (2021), among others, and Lloyd and Ostry (2024) for unconventional policy. We find that the easing at the short end provides near‑term stimulus to activity, which more than offsets the modest tightening at longer maturities. The price level, by contrast, appears relatively insensitive to either end of the curve in this case. This is consistent with the middle segment remaining anchored. The slope shock behaves much like a short-end (target) surprise, as in Braun et al (2025), where the shock has a significant effect on output but a weak price puzzle effect. This may further suggest that it is more the level than the slope dimension of the curve associated with the price response, and something that shocks focusing on isolated segments of the curve could blur.

Chart 4: Impulse response functions to a steepening slope shock

Monetary policy implications

Our results highlight that the effects from a policy announcement go beyond the change in a single interest rate alone. We have shown that different types of changes to the yield curve associated with monetary policy shocks have distinct macroeconomic effects, even when they imply a similar change in the average level of yields.

We find that level and slope shocks are not interchangeable: they redistribute changes across maturities that transmit with different strength and timing. It is not that particular maturities ‘matter more’ (a separate question we do not cover in the post). Whether a given move in gilt yields tightens or loosens the economy depends crucially on where along the curve it occurs, and whether that move is broad‑based or concentrated at particular maturities – impacts the strength and timing of monetary transmission to the aggregate economy.

While policymakers cannot exert precise control over the entire yield curve, our results suggest that they should be attentive not just to an average change in yields, but to the configuration of those changes across maturities, when gauging the likely strength and timing of monetary transmission.

Sofia Carollo works in the Bank’s Monetary and Financial Conditions Division and Natalie Burr works in the Bank’s External MPC Unit.

If you want to get in touch, please email us at bankunderground@bankofengland.co.uk or leave a comment below.

Comments will only appear once approved by a moderator, and are only published where a full name is supplied. Bank Underground is a blog for Bank of England staff to share views that challenge – or support – prevailing policy orthodoxies. The views expressed here are those of the authors, and are not necessarily those of the Bank of England, or its policy committees.