Bank of England expected to hold interest rates despite rise in inflation
The Bank of England is expected to leave UK interest rates on hold tomorrow, despite inflation rising to 3.1% this morning.
Many economists are predicting this morning that the Bank will vote to maintain Bank Rate at 3.75% at midday on Thursday, when it’s next monetary policy decision is due.
The latest money market pricing shows that a ‘no change’ decision is an 80% probability, with just a 20% chance that the Bank hikes rates to 4%.
The Bank’s remit is to keep inflation at 2% in the medium term, so policymakers won’t want to see CPI over 3%!
But…James Smith, developed markets economist at ING, says there is “very little sign” that the energy shock is broadening out to other parts of the inflation basket, writing:
Take food inflation, which slipped even lower in August to 1.1% year-on-year. Producer price data suggests this could actually go negative in the very near-term. That feels unlikely given the wider energy shock. But then again, fertiliser costs have retreated and so far, the sector is displaying signs of strong competition. In time we expect food inflation to rise as the full effect of the Iran war feeds through, but for now there’s little sign of that happening.
It’s a similar story when we look at goods and services the Office for National Statistics has previously defined as having ‘high’ or ‘very high’ energy intensity. This covers everything from fruit to air fares, to canteens. Even stripping out the distortion from last year’s water and car tax hike, the inflation rate for these energy intensive categories has actually fallen this year, That showed no sign of changing in August.
Thomas Pugh, chief economist at audit, tax and consulting firm RSM UK, predicts the Bank will hold rates this week, but might be forced to increase borrowing costs if inflation rises to 4%.
Pugh says:
ShareUpdated at 02.42 EDT“While the MPC can take some comfort from the fact that services inflation stayed at 3.4%, the writing is on the wall for a much bigger move upwards in inflation later this year. The weak labour market data yesterday gives the MPC enough cover to keep interest rates on hold this Thursday but it feels more like “when” rather than “if” the Bank will eventually hike rates now if energy prices remain close to current levels.
“Indeed, looking ahead, inflation will probably rise to around 4% early next year as the supply chain impacts of higher oil prices, elevated agricultural prices and second-round effects start to be reflected in consumer prices. We doubt it will be until 2028 that inflation will get back to the 2% target.”