The Bank of England kept interest rates at their highest levels in 15 years on Thursday, despite divided views among policymakers on how best to address high inflation.
Six out of nine members of the rate-setting committee voted to maintain rates at 5.25 percent. They believed that inflation would continue to ease, but emphasized the need for a prolonged period of restrictive monetary policy. The minutes of the policy meeting revealed a stronger stance than before.
In a statement, Bank of England Governor Andrew Bailey stated that higher interest rates were effective in reducing inflation, but emphasized the importance of seeing inflation fall all the way to the 2 percent target. He mentioned that policymakers would closely monitor whether further rate increases were necessary.
While the UK prepares for an extended period of high rates, the economic outlook has worsened. The bank’s projections accompanying the rate decision indicated that the economy would stagnate for most of the next two years. The forecasts also highlighted the challenge of eradicating high inflation, which stood at 6.7 percent in September. Inflation rates for 2024 and 2025 were expected to be slightly higher than previously forecasted.
Three committee members voted to raise rates by another quarter-point, citing concerns about deeply embedded inflation persistence. They argued that despite the weakening economy, household incomes were growing due to lower inflation and positive indicators of economic output.
This is the second consecutive meeting where rates have remained steady, ending a series of rate increases over nearly two years to combat high inflation. The previous meeting in September saw a slim majority voting to hold rates.
The decision by the Bank of England mirrors those made by the Federal Reserve and the European Central Bank to leave interest rates unchanged. These central banks acknowledged the cooling of their economies and inflation pressures due to tight monetary policy, while also keeping the possibility of further rate increases open. Their focus has now shifted to the duration of maintaining rates at current levels in order to achieve their 2 percent inflation targets.
In the UK, inflation has dropped to just below 7 percent from a peak of around 11 percent a year ago. In September, inflation defied expectations of further decline, primarily due to an increase in fuel prices offsetting the slowdown in food price growth.
Bank of England policymakers highlighted the risk of energy prices pushing inflation higher due to the conflict in the Middle East. However, they noted that so far there had been only a relatively limited increase in energy prices.
Other indicators of inflationary pressures have shown early signs of easing. Inflation in the services sector was slightly weaker than expected, while the labor market has experienced higher unemployment and a decrease in job vacancies.
However, the labor market data provided by the Office for National Statistics has undergone a change. The latest jobs report relied on “experimental” data based on tax and state benefits information due to a decline in the number of households participating in surveys. The Bank of England cautioned that these new measures should be interpreted with caution and stated that it uses a wide range of data to make decisions.
The bank projected inflation to drop to 4.9 percent in October, with a decline in the price cap for household energy bills offsetting increases in other fuel costs. The rate is expected to fall further to about 4.6 percent by the end of the year, allowing the prime minister to fulfill the pledge of halving inflation this year.
However, it will take longer for inflation to return to the bank’s target. If interest rates remain unchanged, inflation is not expected to reach 2 percent until the end of 2025.
Bank of England Governor Andrew Bailey, who voted to maintain rates steady, stated that it is too early to consider rate cuts.
The impact of high interest rates is predicted to have an increasingly negative effect on the economy. The bank estimated that only less than half of the impact has been felt so far, as rates were raised aggressively from near zero in late 2021. The housing market has been most adversely affected with a slowdown in investment. Business investment and household consumption will also take longer to weaken.
The full economic impact of higher rates is not expected to be felt until 2025, according to the bank.