Bloomberg | Bloomberg | Getty Images LONDON — The Bank of England on Thursday raised interest rates by 50 basis points, the biggest single increase since 1995, and forecast the UK’s biggest recession since the global financial crisis. The sixth consecutive increase takes borrowing costs to 1.75% and marks the first half-point rise since the Bank became independent from the British government in 1997. The Monetary Policy Committee voted 8-1 in favor of the historic half-point increase and cited rising inflationary pressures in the UK and the rest of Europe since its previous meeting in May. “This largely reflects the near-doubling of wholesale gas prices since May due to the curtailment of Russian gas supplies to Europe and the risk of further curtailments,” the MPC said in its accompanying statement. “As this feeds into retail energy prices, it will exacerbate the fall in real incomes for UK households and further increase UK CPI inflation in the short term.” Britain’s energy regulator Ofgem raised the energy price cap by 54% from April to tackle rising global costs, but it is expected to rise further in October, with annual household energy bills expected to exceed £3,600 ($4,396). The Bank now expects headline inflation to peak at 13.3% in October and remain high through most of 2023, before easing to its 2% target in 2025. In a press conference after the announcement, Bank of England Governor Andrew Bailey said the shock from Russia’s war in Ukraine was now the biggest factor in UK inflation “by some way”. “There is an economic cost to the war, but I must be clear, it will not divert us from setting monetary policy to bring inflation back to the 2% target,” he added. The Bank is simultaneously forecasting a long recession starting later this year and an even higher peak in inflation. It’s a toxic economic mix, one that would be difficult for the central bank to navigate at the best of times, let alone when it is increasingly drawn into the political spotlight. Luke Bartholomew Senior Economist, Abrdn Markets had generally priced in a more hawkish approach in the August session after UK inflation hit a new 40-year high of 9.4% in June as food and energy prices continued to rise, deepening the historic cost of living crisis in the country. Bailey promised last month that there would be no “ifs or buts” in the central bank’s commitment to bring inflation back to its 2% target. Analysts were keen to assess the Bank’s language, particularly its previous commitment to act “vigorously” on inflation, and the MPC maintained that language in Thursday’s report. “I recognize the significant impact this will have and how difficult the cost of living challenge will continue to be for many people in the UK,” Bailey said. “Inflation hits the least well off the hardest, but if we don’t act to prevent inflation from becoming persistent, the consequences later will be worse and that will require bigger interest rate hikes.” The Bank said it plans to start active sales of about 10 billion pounds ($12.1 billion) worth of government bonds per quarter from September, subject to a definitive green light from policymakers.
Coming recession
The Bank issued a dire outlook for economic growth, suggesting that the latest rise in the price of natural gas led to another “significant deterioration” in the outlook for activity in the UK and the rest of Europe. The MPC now forecasts that the UK will enter recession from the fourth quarter of 2022 and that the recession will last for five quarters as real after-tax household income falls sharply in 2022 and 2023 and consumption begins to contract. “Growth is subsequently very weak by historical standards. The contraction in output and the weak growth prospects beyond this primarily reflect the significant negative impact of sharp increases in global energy and commodity prices on the real income of of UK households,” the MPC said in its monetary report. policy report. The forecast warns of a peak output decline of 2.1%, with the economy starting to contract in the fourth quarter of 2022 and shrinking throughout 2023. Luke Bartholomew, senior economist at Abrdn, said the Bank’s forecasts make it clear how difficult the UK’s economic picture is compared to other major countries. “The Bank is simultaneously predicting a long recession starting later this year and an even higher peak in inflation. This is a toxic economic mix, which would be difficult for the central bank to navigate at the best of times, let alone when it is increasingly being dragged into political spotlight,” he said. Liz Truss, the favorite to win the leadership of the Conservative Party and succeed Boris Johnson as prime minister, is said to be considering a review of the Bank of England’s inflation mandate and the extent of its independence from central government. “With inflation now expected to persist for longer, it is hard to see how the Bank can turn to support the economy sooner. Investors should therefore expect further rate hikes from here even as the markets and the economy are struggling.” added Bartholomew. Sterling fell more than 0.5% against the dollar after the Bank’s announcement, trading around $1.209, while the FTSE 100 climbed 0.5%.
