The Bank of England’s monetary policy committee left interest rates unchanged at 5 per cent as expected, restricted by intense inflationary pressures and bleak prospects for economic growth. Even the keenest supporters of interest rate cuts were resigned to rates staying on hold after consumer price inflation climbed to 3% last month, a full percentage point above target, leading markets to price out any chance of near-term monetary easing.
MPC members will not yet have seen a preview of this month’s CPI reading, but they will have had an advance copy of the Bank’s own survey of inflationary expectations. This is likely to show people expect inflation to climb over 4 per cent in the next year – in line with many economists’ forecasts for actual outcomes.
It will now be extremely difficult for the Bank to contemplate easing policy until inflation has passed its peak. Policymakers are conscious that the credibility of the Bank’s 2 per cent inflation target is at stake, and have repeatedly signalled they will countenance a prolonged period of weak growth to bring inflation under control.
Michael Saunders, economist at Citi, questioned whether committee members would have supported the three rate cuts they have voted for since last autumn if they had been able to foresee the latest surge in oil prices. “The shocks hitting the UK are even greater than the MPC was expecting in May,” he added.
The latest decision from the MPC came as it emerged that the government was considering restructuring the Bank of England to give it a stronger focus on financial stability in the wake of the Northern Rock crisis.
Alistair Darling, chancellor, told the Commons he wanted to ensure that one of the Bank’s “core purposes is the maintenance of financial stability”.He said he wanted to learn from the experience of the Bank’s monetary policy committee and to bring in outside experts to advise on City issues.
This month’s decision will not have been an easy one for policymakers confronted with mounting evidence that growth is weakening, consumer spending slowing, and even the resilient labour market starting to show signs of stress.
The survey of purchasing managers’ for the manufacturing and services sector earlier this week showed activity at levels where the Bank has almost invariably cut rates in the past, and some economists think that when minutes of the MPC meeting are published, they could reveal a three-way split on the committee.
Some economists say markets overreacted to inflation data by pricing out any chance of rate cuts this year and even hinted at an eventual rate rise. Those hawkish expectations have eased slightly after the latest weak data.
“We would expect the minutes of this meeting to try and create some room in which a reduction in rates can be considered in the coming months, even allowing for the potential ’signalling’ effect of such a move on inflation expectations,” said Malcolm Barr, economist at JPMorgan.
05 June 2008