Interest rate rise is a boost, but should the BoE have gone further?

ALEX BRUMMER: Interest rate rise is a boost for savers, but should the Bank of England have gone further?

Andrew Bailey’s critics say he dithered for more than a year as he failed to grasp the threat posed by inflation and delayed increasing the Bank of England’s base rate.

Even after yesterday’s 0.5 percentage point jump, which raised the total to 2.25 per cent, many believe he should have gone further.

Yes, this was the seventh hike in a row and it brought the rate to the highest level since 2008. But the governor firmly resisted calls for an even sharper rise – worrying that a tougher stance could risk tipping Britain into a deeper recession.

The Bank’s own Monetary Policy Committee was far from unanimous on the increase: three of its members wanted to see a 0.75 percentage point hike, which would have been the biggest single rate rise in 33 years.

So why did Bailey not go further? It’s likely he was guided by the Bank’s own assessments, which show that Britain is already heading into recession. Thanks in large part to Liz Truss’s energy price guarantee, which aims to cap soaring gas prices for families and businesses, the peak inflation forecast for this year has fallen from 13.3 per cent to a still-alarming 11 per cent. Even that is still more than five times the Bank’s 2 per cent target.

Sterling dropped again overnight to barely 1.12 against the greenback after the Federal Reserve imposed its own 0.75 percentage point interest rate hike. Having clawing back some ground over the morning, the Pound immediately tumbled again when the Bank’s announcement happened at noon

To make matters worse, by increasing the base rate less than the markets wanted, the Bank risks making the pound fall even further against the dollar and other major currencies.

Sterling has tumbled 4.5 per cent since August alone – and is now at its lowest level against the dollar since 1985. When Covid-19 struck in early 2020, Bailey slashed the base rate to the historic low of 0.1 per cent. Many believe he was far too slow to raise it again when the worst of the pandemic was over.

Other central bankers have been willing to take far more drastic action. On Wednesday, America’s Federal Reserve raised rates by 0.75 percentage points to 3.5 per cent in total, in a bid to stem runaway inflation.

The Bank of England doesn’t target a particular exchange rate. But a weak pound may worsen inflation – counteracting Truss’s energy-price gambit.

Yesterday’s rate rise came ahead of today’s ‘fiscal event’ – don’t call it a budget! – to be unveiled by Chancellor Kwasi Kwarteng.

Since taking office only weeks ago, Liz Truss’s government has committed to spending a huge sum – up to £150billion by the highest estimates – to shield households from soaring energy bills this winter, with another £40billion or so being targeted at businesses.

This, together with Kwarteng’s expected tax cuts today – including spiking the hike in national insurance and cancelling a proposed rise in corporation tax – has caused consternation in the markets. The Institute for Fiscal Studies think-tank has even claimed that the policies could make Britain’s public finances ‘unsustainable’.

Today is the seventh consecutive month that the Bank has raised rates, although the level is still historically fairly low

So what conclusions can we draw?

Another increase in the base rate should cheer savers, who are finally starting to see a return on their deposits. It must be said, however, that these increases will be nowhere near enough to match the ravages of inflation, and many banks have been disgracefully slow at passing increases on to their customers.

Meanwhile, homeowners – especially those on tracker mortgages and anyone taking out a new loan – will immediately feel the impact of the increase in mortgage rates. Even those on fixed-rate mortgages will only be insulated for so long. This could impact on house prices.

Overall, the Government finds itself in a stronger position than it probably did back in March. Tax receipts have been resilient. The strain on the public finances may be less than some analysts are projecting.

Nevertheless, this will not be the last rise to interest rates – and borrowers face a long hard winter, whatever their thermostat says.

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