The UK central bank raised its key interest rate for the third successive policy meeting on Thursday amid soaring inflation which the bank warned may rise above 8% later this year.
Eight out of nine members of the Bank of England’s Monetary Policy Committee (MPC) voted to raise the Bank Rate from 0.5% to 0.75% following the US Federal Reserve’s decision on Wednesday to raise interest rates for the first time since the COVID-19 pandemic.
However, the UK central bank softened its language on the need for further interest rate increases going forward.
The central bank said: “Based on its current assessment of the economic situation, the Committee judges that some further modest tightening in monetary policy may be appropriate in the coming months, but there are risks on both sides of that judgement depending on how medium-term prospects for inflation evolve.
“The MPC will review developments in the light of incoming data and their implications for medium-term inflation, including the economic implications of recent geopolitical events, as part of its forthcoming forecast round ahead of the May 2022 Monetary Policy Report.”
James Athey, Investment Director, Abrdn, said: “The BoE decision to hike base rate by 25bps is no major surprise to markets which had, at the margin, suspected a larger increment might be on the table.
“The decision of MPC member Cunliffe to vote for no change to policy however, adds a more significant dovish twist to this decision.
“While the growth / inflation trade-off faced by the Bank is far from ideal, real wages are being squeezed by the cost-push nature of the inflation we are seeing.
“It is true that measures of inflation expectations and inflation compensation are already reflecting the more inflationary environment the UK faces.
“Furthermore, when faced with the opposite of this scenario in the past, the Bank was consistently and repeatedly keen to prioritise the role that inflation expectations may play in future outcomes regardless of the underlying cause of what was then a disinflationary environment.
“This inconsistency is neither helpful nor productive.
“The reality is that inflation is headed towards 10% and the Bank has a mandate to deal with that.
“To be backing away from this duty with interest rates still below 1% feels irresponsible and raises questions about the Bank’s inflation-fighting fortitude.
“We shouldn’t be surprised to see longer dated breakeven rates rising further as investors digest this rather weak Bank response.”
Victoria Scholar, head of investment at Interactive Investor, said: “With inflation running hot and the latest GDP figures for January also coming in strong, higher interest rates were a no-brainer, until the Ukraine war broke out which significantly complicates the picture.
“Conflict between Russia and Ukraine, heightening the energy price shock, have exacerbated the inflationary backdrop but have also dampened the economic outlook.
“While we are yet to see the GDP figures reflecting the period since the onset of war, consumer confidence is already deteriorating and will lead to slower growth down the line, while inflation is likely to push higher for longer, possibly peaking later this year rather than next quarter.
“While the Bank of England is ahead of the pack as the first mover, it is still behind the curve, prompting serious concerns about the prospect of a recession or stagflation.
“The central bank has the unenviable task of attempting to control supply side inflation with demand side tools, without inadvertently creating a recession.”
Paul Craig, portfolio manager at Quilter Investors, said: “The Bank of England began its fight against inflation back in December when it first raised rates following the pandemic.
“This is the next step in what is becoming a protracted story in containing inflation at an appropriate level.
“It is now seeing inflation hit 8% in the second quarter and perhaps even higher in the second half of the year.
“Ultimately a double digit inflation rate is not off the cards.
“The BoE had no choice but to keep raising rates.
“It is looking to build in some insurance now should there be a slowdown in economic growth or employment comes in worse than feared.
“With global risks and the Russia-Ukraine war having a significant economic impact, growth will be challenged and thus the bank may need to reverse course later in the year.
“But for now it needs to follow the path to stop sterling devaluing further and intensifying the household squeeze through import prices and the global commodity sector which is priced in dollars.
“Savings rates could improve from here which might offset some of the cost of living crunch, but with inflation proving difficult to contain it might all be a little too late.”
Laith Khalaf, head of investment analysis at AJ Bell, said: “The Bank of England has now raised interest rates to their highest level since the pandemic struck, but the pound sunk back on currency markets, as the vote and commentary were not as hawkish as anticipated.
“Having initially led the US and Europe in tightening policy, the Bank of England now appears to be striking a more nuanced tone, with no members voting to increase base rate by more than 0.25%, and a judgement that only modest tightening would be necessary in the coming months.
“Nonetheless, rates are now the highest they have been since February 2009, apart from a period between August 2018 and March 2020, when base rate also sat at 0.75%.
“What’s different this time is that there are further rate rises waiting in the wings.
“Unless you want egg on your face, it’s best not to count your chickens before they’re hatched when it comes to monetary policy, but it looks pretty clear that central banks are intent on several further rate hikes as we move through 2022, to help stave off the real and present danger of sustained inflation.
“One thing that is left in little doubt is that inflation is on the rise, with the Bank of England expecting CPI to hit 8% in spring. April might not be the cruellest month either, with the Bank now reckoning we may get a double spike, and inflation potentially peaking in October.
“If current energy prices are sustained, the Bank calculates that the Ofgem price cap could rise by another 35% in October.
“The Ukraine crisis has clearly given fresh impetus to some of the inflationary forces that had already been unleashed, but it has also heightened the risk to global economic growth.
“Central banks are now walking a tightrope, because raising rates too aggressively could tip the world into a recession, particularly when combined with higher energy costs that are likely to wreak their own damage on the economy.
“UK consumers now face an annus horribilis, as rising borrowing costs will be compounded by higher food and energy bills, and tax rises to boot.
“Interest rates will mean savers getting a bit more return on cash held in the bank, but elevated inflation means they will actually be worse off.
“The Bank of England is honest in stating that it has limited ability to deflect the economic shock of higher food and energy prices, but that just means UK households are going to have to grin and bear it.
“It remains to be seen whether Rishi Sunak will proffer any support for household budgets in the forthcoming Spring Statement.
“The Chancellor can expect an inflation windfall from freezing tax allowances, and the IFS estimates this policy could now be yielding £21 billion for the Exchequer in 2026, compared to an initial forecast of £8 billion, thanks to higher inflation.
“But on the other hand, government borrowing is already eye-wateringly high, and rising interest rates only serve to increase the cost of servicing that debt, especially seeing as £847 billion of gilt payments are effectively pegged to base rate by the QE scheme.
“Rising interest rates could well quash the tax windfall the Treasury can expect from higher inflation, which leaves less budget for the Chancellor to ride to the rescue of UK households.”
Alpesh Paleja, CBI Lead Economist, said: “With ongoing conflict in Ukraine pushing global commodity prices higher and exacerbating supply chain disruption, the MPC are clearly making moves to counter growing inflation.
“But they will be walking a tightrope in the months ahead, having to both keep price pressures in-check and manage the impact of tighter monetary policy on economic growth – particularly against a background of rising living costs.
“As households and businesses brace for further price rises, targeted support from government will be needed to cushion the blow until the outlook is on a firmer footing.
“By using the forthcoming Spring Statement to facilitate more investment-led growth – including through the introduction of a permanent investment – the Chancellor can push the UK onto a more ambitious growth trajectory.”