Bank of England raised interest rates by a bigger-than-expected half a percentage point on Thursday after it said there had been “significant” news suggesting British inflation would take longer to fall.
The Bank of England’s monetary policy committee (MPC) voted 7-2 to raise its main interest rate to 5 per cent from 4.5 per cent, its highest since 2008 and its largest rate increase since February, following stickier inflation and wage growth since its policymakers met last in May.
“There has been significant upside news in recent data that indicates more persistence in the inflation process,” the MPC said. “Second-round effects in domestic price and wage developments generated by external cost shocks are likely to take longer to unwind than they did to emerge.”
Economists polled by Reuters had expected a move to 4.75 per cent, although financial markets earlier on Thursday had seen a nearly 50 per cent chance of a rise to 5 per cent, following higher-than-expected inflation data released on Wednesday.
Bank of England policymakers had given little indication that a half-point rate increase was under consideration in the run-up to Thursday’s announcement.
MPC members Silvana Tenreyro and Swati Dhingra opposed the rate rise – as they have all others this year – saying that much of the impact of past tightening had yet to be felt and forward-looking indicators pointed to steep falls in inflation and wage growth ahead.
Governor Andrew Bailey, in a regular letter to British finance minister Jeremy Hunt alongside the decision, reiterated most of the MPC statement. “The MPC will do what is necessary to return inflation to the 2 per cent target sustainably in the medium term,” he said.
Expectations for Bank of England rate tightening have surged in recent days – sharply raising the cost of new mortgages – and before Thursday’s decision financial markets expected the Bank of England’s Bank Rate to peak at 6 per cent by the end of the year. By contrast, economists polled by Reuters last week saw a 5 per cent peak.
Britain’s economy – which was hit by the shock of Brexit as well as the Covid pandemic and the surge in gas prices caused by Russia’s invasion of Ukraine – has dodged a widely expected recession so far in 2023. However, unlike most other big rich economies, output has barely recovered to pre-pandemic levels and growth this year looks set to be a minimal 0.25 per cent, according to Bank of England forecasts last month.
The Bank of England’s rate increase follows the European Central Bank’s decision last week to raise rates by a quarter-point to 3.5 per cent, and rate rises by the Swedish and Norwegian central banks earlier on Thursday.
While Britain faces a tricky inflation challenge as inflation has been slow to fall from the 41-year high of 11.1 per cent struck last year, other central banks see challenges too. Bundesbank president Joachim Nagel described inflation as a “very greedy beast” on Wednesday, and the US Federal Reserve chair Jerome Powell said further rate rises remained “a pretty good guess”, despite last week’s pause.
The Bank of England retained its previous guidance on future policy, which stated that if there were to be evidence of more persistent pressures, then further tightening in monetary policy would be required.
The central bank also noted that short-dated British government bond yields had risen sharply – pricing in an average level of Bank Rate of 5.5 per cent for the next three years.
The Bank of England said it would keep a close eye on the impact on mortgage costs, as well as rising costs in Britain’s rental market.
Official figures on Wednesday showed consumer price inflation was unchanged at 8.7 per cent in May and underlying inflation rose to its highest since 1992.
Last month the central bank forecast that inflation would fall to just over 5 per cent by the end of this year and be below its 2 per cent target in early 2025. – Reuters
