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Interest rate hiked to 1% as UK outlook worsens

Bank of England
Bank has warned of slowing growth (pic: Terry Murden)

Interest rates have been raised to 1% as expected, their highest level for 13 years as the Bank of England balances firm action to control surging inflation against tipping the country into recession.

The market priced in a rise from 0.75% to 1%, the fourth successive monthly increase by the Bank’s Monetary Policy Committee.

It has taken an aggressive approach to curbing inflation which hit a 30-year high of 7% in March and could peak in double digits in the autumn.

It emerged that three of the nine-member committee wanted to go further on interest rates, with a hike to 1.25%, which would mirror the US Federal Reserve’s 50 basis point increase delivered yesterday.

The currency and bond markets were underwhelmed by the residual dovishness of the Bank of England, with the pound falling on the back of the decision, and bond yields slipping back. But the FTSE 100 surged and at 2pm was 106.6 points higher at 7,599.07.

“This is a mark of how hawkish the market is expecting central banks to be,” said Laith Khalaf, head of investment analysis at AJ Bell. “Policy makers are now being judged not only on delivering rate hikes, but the size of these increases too.”

The Bank said the economy “is expected to slow sharply” due to “sharp rises in global energy prices” squeezing household income and companies’ profit margins.

Andrew Bailey: walking a tight line

It now thinks the economy will be 2% smaller than it expected in February while inflation will peak at just over 10% in the final months of this year, driven by the cap on energy bills rising again to account for higher wholesale gas prices caused by Russia’s invasion of Ukraine.

That would be the quickest price acceleration since the early 1980s.

The economy is forecast to dip into recession for most of next year, caused by households cutting spending in response to incomes failing to keep pace with price rises.

Suren Thiru, Head of Economics, at the British Chambers of Commerce, said: “With monetary policy continuing to tighten, it is vital the fiscal policy is now loosened to ease the crippling cost pressures faced by consumers and businesses, and to support wider economic activity. 

Peter Gallanagh, CEO for Scotland and the North at Azets, the UK’s largest regional adviser to SMEs, said that the SME community will be disproportionately impacted by the increase in interest rates.  

“The interest rate rise, whilst still historically low, will place additional repayment burdens on borrowers and in turn impact on SMEs as spending starts to be curtailed.  With more than 300,000 SMEs in Scotland any further interest rate rises will have a significant effect on the economy, employment and tax receipts.

“Inflation is set to increase well beyond the current rate of 7% with further interest rate rises highly likely.  Additional rate rises will trigger a further tightening of consumer spending and reduced footfall both in person and online.”

Andrew Megson, executive chairman of My Pension Expert, said: “With inflation expected to rise beyond its thirty-year high of 7%, this further increase to interest rates is no surprise. But let’s face reality: in the current climate of low interest rates and high inflation, money in savings is likely to be losing value in real terms.”

Bank of England Governor Andrew Bailey admitted at a meeting of central bankers in Washington last month that the Bank is walking a “very tight line” between controlling inflation and tipping the UK into a recession.

He said that raising rates too quickly to keep a lid on the cost of living could put Britain’s economic recovery into reverse.

Similarly tough action is being taken in the US where the Federal Reserve last night raised interest rates by 0.5% to between 0.75% and 1%.

It was the largest single hike since May 2000 and afterwards Fed chairman, Jerome Powell, said: “Inflation is much too high and we understand the hardship it is causing and we are moving expeditiously to bring it back down.”

Wall Street roared higher on the announcement and relief that the Fed is “not actively considering” a rumoured 0.75% rise for June or July. The Dow Jones Industrial Average was up 2.9%, over 900 points, while the S&P 500 rose 3.1% and the tech-heavy Nasdaq Composite 3.3%.

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