Bank of England maintains interest rates ahead of general election
The Bank of England’s monetary policy committee (MPC) announced today that it will not be cutting interest rates, with the decision being made just two weeks before the general election.
The MPC’s decision to keep the current interest rate at 5.25% was expected, as lowering the cost of borrowing could have been seen as a political move to support the government. Some Conservative politicians, such as former business secretary Jacob Rees-Mogg, argued that not cutting the Bank rate could also be perceived as a political decision against the government.
The vote to maintain the interest rate at 5.25% remained unchanged from the previous meeting, with a 7-2 split. Swati Dhingra and Sir Dave Ramsden were again in the minority, voting to cut the rate to 5%.
In the minutes released by the MPC, they made it clear that their decision was not influenced by the upcoming general election. The committee stated that the timing of the election on 4 July would not affect their decision, and that they would continue to make decisions based on achieving a sustainable 2% inflation target in the medium term.
Aside from political considerations, there were solid reasons for the MPC’s decision to keep rates unchanged. One of the main concerns was the fact that while the headline rate of consumer prices inflation reached the Bank’s target of 2% in May, services inflation remains high at 5.7%. This raised concerns about potential “second round effects,” where businesses and workers may respond to higher prices by increasing their own prices and wages.
The minutes also noted that services inflation was higher than projected in the Bank’s most recent inflation report, with factors such as index-linked and regulated prices contributing to the overall increase.
The MPC is also cautious about the possibility of inflation rising later in the year due to “base effects” and the fact that some goods in the inflation basket were not rising as rapidly in the second half of last year as they are expected to this year. For example, the price of unleaded petrol was significantly higher in May this year compared to May last year.
Additionally, the economy is showing stronger growth than expected, as seen in indicators such as household spending on home maintenance and consumer confidence. The MPC also remains concerned about high wage inflation, which was at 6% during the three months leading up to the end of April.
The minutes highlighted that near-term pay growth may not moderate as much as initially expected, with businesses that are most impacted by the National Living Wage having to pay higher wages to employees.
Despite the decision to maintain the current interest rate, the MPC has indicated that a reduction in Bank rate is on the horizon. The minutes state that the current restrictive stance of monetary policy is affecting the real economy, leading to a looser labor market and reducing inflationary pressures.
The timing of this reduction is now being debated, with market expectations shifting from an August cut to a potential cut in September. However, the door remains open for an August reduction in Bank rate, with the minutes stating that for some members, the decision to keep rates unchanged was a close call.
The market is now placing a 60% probability on an August rate cut, but this decision is not certain and could be influenced by the outcome of the general election. Some experts believe that a potential Labour victory could unsettle markets and lead to a weaker pound, which could in turn drive up imported inflation.
The MPC will continue to monitor market reactions closely, and their cautious approach is likely to remain for at least one more month, in line with their peers at the US Federal Reserve.