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Bank of England signals rates to stay high as borrowing costs hit 15-year high

Bank of England signals rates to stay high as borrowing costs hit 15-year high © Reuters. FILE PHOTO: Flowers grow outside the Bank of England in the City of London, Britain, July 30, 2023. REUTERS/Hollie Adams/File Photo

By David Milliken, Andy Bruce and Suban Abdulla

LONDON (Reuters) -The Bank of England raised its key interest rate by a quarter of a percentage point to a 15-year peak of 5.25% on Thursday, and gave a new warning that borrowing costs were likely to stay high for some time.

Unlike the U.S. Federal Reserve or the European Central Bank – which also both raised rates by a quarter-point last week – the BoE’s Monetary Policy Committee gave little suggestion that rate hikes were about to end as it battles high inflation.

“The MPC will ensure that Bank Rate is sufficiently restrictive for sufficiently long to return inflation to the 2% target,” the BoE said in fresh guidance about the outlook for borrowing costs.

“Some of the risks of more persistent inflationary pressures may have begun to crystallise,” it added.

Governor Andrew Bailey spelt out that message to reporters after the announcement, saying the pace of pay growth was “materially above” the BoE’s previous forecasts.

“In our judgement, upside surprises on wage inflation suggests that it will take longer for second-round effects to go away than it did for them to appear,” he said.

Wage rises had been a bigger driver of high inflation than companies’ profit margins, the BoE said.

British inflation hit a 41-year high of 11.1% last year and has fallen more slowly than elsewhere, standing at 7.9% in June, the highest of any major economy.

Economists polled by Reuters last week forecast BoE rates would peak at 5.75% later this year. The BoE’s own forecasts were based on recent market assumptions – which have now eased somewhat – that rates would peak at over 6% and average nearly 5.5% over the next three years.

“Inflation hits the least well-off hardest and we need to make absolutely sure that it falls all the way back to the 2% target,” Bailey said.

Sterling briefly dipped after the data and financial markets moved to price in a roughly two-thirds chance of another quarter-point interest rate rise to 5.5% in September.

“One weak data point will not be enough for the Bank to be satisfied that inflation is now on a sustainable trajectory. We expect at least one more 25 bps rate hike in September,” said Thomas Pugh, an economist with accountancy firm RSM UK.


Policymakers voted 6-3 for the increase, but were split three ways on the decision for the first time this year. Two MPC members – Catherine Mann and Jonathan Haskel – voted for a half-point increase this month, while Swati Dhingra again voted for no change, warning of the risk of smothering the economy.

Markets had seen a roughly one-in-three chance of a bigger increase to 5.5%, which would have repeated June’s big rise.

The BoE forecast inflation would fall to 4.9% by the end of this year – a faster decline than it had predicted in May.

This will be a relief for Prime Minister Rishi Sunak, who pledged in January to halve inflation this year, a goal which had looked challenging.

“If we stick to the plan, the Bank forecasts inflation will be below 3% in a year’s time without the economy falling into a recession,” finance minister Jeremy Hunt said after the BoE’s announcement.

However, the BoE forecasts inflation will be slightly slower to fall from late next year. Inflation does not return to its 2% target until the second quarter of 2025, three months later than it forecast in May.

The BoE said it was incorporating more of the upside risks to inflation which the MPC saw in May into its central or “modal” forecast, despite a bigger-than-expected fall in inflation in June.

Services price inflation – which the BoE said offered a signal on longer-term price trends – was projected to stay high, and wage growth at the end of this year was expected to be 6%, up from May’s forecast of 5%.

The BoE, which noted the economy’s recent “surprising resilience”, barely changed its growth forecasts from three months ago, with the economy due to expand a meagre 0.5% in 2023 and 2024, and just 0.25% in 2025.

The jobless rate is predicted to rise to 4.8% by late 2025, up from a forecast of 4.4% in May and 4.0% in the latest data.

Mortgage costs have hit their highest since 2008, weighing on house-building. The BoE forecast housing investment would fall 5.75% this year and 6.25% in 2024.

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