The Bank of England raised interest rates by half a percentage point to 5%, an unexpected move. Prime Minister Rishi sunak and the central bank have both pledged to fight persistent inflation.
Sunak supported the BoE’s decision, and warned Conservative MPs to put tax cuts on hold. He also promised to maintain a tight grip on fiscal policies to control the inflation rate, which was stuck at 8.7 percent in May.
Would I like to reduce taxes tomorrow? Sunak, at a Kent press conference said: “Of course I would.” “But borrowing a lot of money for things that seem great is not the responsible approach.”
Andrew Bailey, governor of the BoE, was uncompromising in his need to reduce inflation. He said: “We don’t expect, and we certainly do not desire, a recession. But we will do everything we can to reduce inflation to the target.”
The Monetary Policy Committee of the BoE voted 7-2 for the rate increase on Thursday, citing “material news” from recent data showing stronger inflationary pressures in the UK economy.
The BoE is hoping that its decision to raise rates to the highest level since 2008 will show its resolve to combat inflation.
Bailey said: “We understand this is difficult — many people who have mortgages or loans are going to be worried about the implications for them.”
If we don’t increase rates now, things could get worse in the future. We will take the necessary steps to return inflation to the 2% target.
Chancellor Jeremy Hunt stated that the BoE has “my full support”. Hunt wrote to Bailey in that the government will continue to align fiscal policy to the BoE’s stricter monetary policies.
He added, “This will require continuing discipline in public spending and tax policies.” Hunt has been urged by many Tory MPs to reduce taxes in the Autumn Statement before the general election next spring.
The MPC’s half-point rate increase, the 13th consecutive rise in rates, defied market expectations and the majority of economists who expected a quarter point move. This will confirm the market changes of the last month, which have led lenders to re-price fixed rate mortgage agreements in what is now dubbed as a “mortgage time bomb”.
Those who have variable or tracker rates will likely see their monthly payments rise quickly. According to L&C Mortgages, a borrower who has a PS200,000 mortgage for 25 years at a standard variable interest rate of 7.99 per cent will see their monthly payments rise by PS67 or PS800.
Bailey stated that the decision to increase rates was taken “in view of the stronger resilience of the UK economy as well as further evidence of persistent inflation”.
The BoE is an outlier when it comes to other central banks. The US Federal Reserve did not increase rates last week for the first time since more than a decade, while the European Central Bank increased by a quarter point.
The boost that sterling received from the decision on Thursday faded rapidly. After briefly rising to $1.2838 (up 0.4% against the dollar), the currency fell by 0.25 percent to $1.2735. The yields on UK government bonds rose. The two-year gilt yield increased by 0.03 percentage points to 5.08 percent.
The MPC did not comment on the market expectation that interest rates will reach a high of around 6 percent by the end the year. It reiterated that it would tighten its monetary policy further if “there were evidence of persistent pressures”.
The seven MPC members who voted in favor of the large increase cited in the minutes the inflation and labour market data over the last six weeks, which were significantly worse than what they had predicted in early May.
The BoE’s May forecasts suggested that the maximum rate of borrowing would be 5%. However, the BoE has raised the rate to 5%.
Swati Dhingra, Silvana Terreyro and the two other members who did not vote with the majority voted for a rate of 4.5 percent. The two members said that the effects of the increases already implemented had not yet been felt.