The Bank of England has delivered its ninth consecutive interest rate rise, taking the cost of borrowing to 3.5 per cent.
Officials at the central bank voted to increase interest rates by 0.5 percentage points in a bid to control spiralling inflation, which is weighing on households and businesses. Rates have risen by 3.4 per cent since their historic low of 0.1 per cent last December.
In a sign that the Bank is slowing the pace of increases as economic activity lags, the latest rate rise, which is in line with investors’ expectations, is smaller than the 0.75-point increase implemented in November.
The economy grew by 0.5 per cent in October, but economists believe the rise is unlikely to stop Britain sinking into recession by the end of the year.
Though inflation may have peaked, the impact of the cost of living crisis on the economy is just beginning with a prolonged downturn in Gross Domestic Product, the main measure of output in the economy, expected to start this winter and last throughout 2023.
Inflation fell from its 41-year high of 11.1 per cent in October to 10.7 per cent last month due to a slowdown in the growth of fuel prices, the latest Office for National Statistics figures show.
Raising interest rates increases the cost of borrowing and the return on savings. It is used by policymakers to encourage people to save rather than spend, reducing demand within the economy and, in theory, prices. Rate rises are typically passed on by banks to mortgage borrowers and in their monthly repayments.
Inflation in prices and wages could be persistent, justifying a “forceful” policy response, officials said in the meeting minutes. They added: “Although activity in the economy was clearly weakening, there were some signs that it was more resilient than had been expected and it was therefore uncertain how quickly the labour market would loosen.” The jobs market is considered “tight” when nearly everyone who is willing and able to work is working.
The rate of unemployment has risen in recent months but remains close to a historic low at 3.7 per cent of the working age population.
The 0.5 percentage point rise in interest rates will help bring inflation back to the Bank’s 2 per cent target and reduce the risk of a “more extended and costly” series of interest rate rises later on, officials added. The central bank expects inflation to fall back to target by 2024.
The nine-strong committee was divided, with one member, Catherine Mann, opting for another 0.75 percentage point rise, which would match November’s rate rise as the biggest since October 1989, to bring down expectations among households and businesses that inflation would remain high. Two members, Swati Dhingra and Silvana Tenreyro, wanted to leave interest rates at 3 per cent this month because there are increasing signs that the economic slowdown is starting to affect the jobs market.
Jobs figures published by the statistics office earlier this week showed that, although wage rises were close to a record high, the value of earnings had fallen for a sixth consecutive month because the cost of living was so high.
Public sector workers, including teachers and nurses, are among the worst hit, with wage rises of 2.7 per cent and inflation in double digits.
The Office for Budget Responsibility, the official forecaster, warned that households face two years of record falls in living standards as inflation squeezes budgets.
The chancellor announced in his Autumn statement plans to extend the energy price guarantee, which caps the average household bill at £2,500 until April, for another year with a higher average cap of £3,000. The plan reduces inflation in 2023 by 0.75 percentage points, according to the Bank’s forecasts.
Rate-setters said that, if their projections – which include a slow decline in inflation, a recession and a rise in unemployment – hold true, then further interest rate rises “may be required.” They added that the outlook is uncertain and that, if inflation proves more persistent than they expected, they would respond “forcefully.”
Investors expect interest rates to peak at around 4.5 per cent next year.
At the end of November, the Bank began to unwind the gilt purchases made as part of its intervention to avert a collapse in the market following the Liz Truss government’s mini-Budget in late September. Around 40 per cent of the gilts bought during the operation were sold by mid-December.