20 June 2022

With inflation expected to exceed 11% year-on-year in the U.K. in October, the Bank of England is once again raising its key interest rate to its highest level in 13 years.
Faced with soaring inflation in the UK, the Bank of England (BoE) is taking the bull by the horns. The British monetary authority has decided on a fifth consecutive increase in its key rate, to 1.25%, a new record since the financial crisis of 2009. The BoE did not decide to raise its rates by more than 0.25 points, unlike the U.S. Federal Reserve, but it “will be particularly attentive to indications of persistent inflationary pressures, and will respond if necessary with force,” it promises in the minutes of its meeting.

Growth and inflation forecasts were not reviewed in detail at the meeting, but while inflation climbed in April to 9%, a 40-year high, the BoE is now expecting a peak of “over 11%” in October, when the regulated electricity price cap will be raised. Like the United States or the eurozone, prices are rising in the UK due to disruptions to production lines caused by the Covid-19 pandemic and soaring energy prices since the start of the Russian invasion of Ukraine.

But the country, which began raising rates at the end of 2021, is also facing a slowdown in growth, with a second consecutive monthly contraction in economic activity in April, and the BoE is now forecasting a 0.3% drop in GDP in the second quarter, before an even steeper decline at the end of the year. Sluggish growth is therefore preventing the BoE from being more determined, unlike the US Federal Reserve (Fed), which on Wednesday raised its key rate by three quarters of a point, the first time this has happened since 1994.

The European Central Bank (ECB) held a special meeting the same day to try to reassure the European debt market while maintaining its rate hike scheduled for July. But “the rise in consumer services prices, which is more directly influenced by local costs than goods prices, has increased in recent months,” the BoE acknowledged.

“Difficulties in recruiting remain high and so does the demand for workers,” it added, describing the labor market as “still tight,” even though the unemployment rate in the UK edged up in the three months to the end of April to 3.8%. In particular, the U.K. is digesting the consequences of Brexit, which has disrupted the inflow of European workers, while the post-pandemic recovery is leading to strong demand and a wage war.

Three of the nine members of the Monetary Policy Committee (MPC), however, voted to raise rates by 0.5 percentage points, as they did in May, judging that “monetary policy needs to stand firm against the risk posed by the recent trend of rising wages, price-raising decisions by businesses and sustained inflation expectations.” Despite the consecutive rate hikes for five meetings, the British pound is suffering from the gloomy outlook for economic activity: it fell by 1% after the BoE announcements.

Source : Capital