Bank of England Interest Rate Decision Expected to Be Close

The Bank of England has held the benchmark bank rate at 0.5 percent for the past two years but as rising prices continue to erode the buying power of the pound, pressure builds on the Bank to hike rates. The minutes of the last Monetary Policy Committee (MPC) meeting in early March reveal that the interest rate vote at that time consisted of six voting members in favor of maintaining the current rate, and three votes for an increase.

The next MPC interest rate decision will be announced on Thursday, April 7 at the conclusion of the committee’s monthly two-day meeting. The early line is that the decision could be even tighter this time, but the prevailing belief is that the MPC will opt to continue with the current rate policy for the time-being at least.

The Bank of England is responsible for maintaining growth as close as possible to an annualized rate of 2 percent. This is considered the ideal trade-off between sustainable growth and inflation. When the Bank fails to meet this goal by more than a full percent above or below the target, the Bank is required to explain why the target was missed and what steps will be taken to correct the situation. This explanation arrives by way of a letter that Bank Governor Mervyn King must write to his boss in the government, the Chancellor of the Exchequer.

As of the end of February, the inflation rate for the previous twelve months as measured by the Consumer Price Index was 4.4 percent. The expected result for March is even higher. This means Governor King must fire off another letter to the Chancellor – in fact, if this is indeed the case, it will actually be his seventh straight letter explaining why monthly inflation surpassed the target by a wide margin.

Naturally, those concerned with the level of inflation are lobbying for taking interest rates higher to curb consumer spending. Governor King has argued against adjusting rates upwards claiming he fears this could derail the very fragile recovery underway in the British economy. He is also not convinced inflation is due solely to unrestrained spending habits.

To bolster his argument, King points to recent tax hikes introduced as part of the government’s attempts to reduce the country’s massive budget gap of nearly £150 billion (US$241.3 billion). On January 1st, the main sales tax known as the Value-Added Tax (VAT) was increased from 17.5 percent to 20 percent. This was an across the board increase that spared no consumer or business.

Governor King also identifies the spike in oil and energy costs over the past year as a major contributor to inflation. Britain is highly dependent on imported oil and King claims the higher fuel costs alone account for roughly one-third of the jump in inflation in recent months.

Finally, Governor King is quick to point out the impact the severe spending cuts outlined in the most recent government budget will have on future growth. To reduce the national deficit, the government has committed to reducing spending by £83 billion (US$133.5 billion) over the next four years. This is expected to eliminate 300,000 public sector jobs alone and could push unemployment to 9 percent by the end of this year from the current rate of 8 percent.

For April’s MPC meeting, it appears King has sufficient like-minded voting members to carry the decision but if inflation does not soon show signs of easing, King may soon find himself defending a “stay-the-course” position on his own.

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