The Bank of England has warned that the UK will enter a recession later this year. The expected recession is expected to be the longest since the global financial crisis.
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The Bank of England voted to raise its policy rate to 2.25% from 1.75% on Thursday, less than the 0.75 percentage point increase many traders had been expecting.
UK inflation eased slightly in August but at 9.9% y/y it remained well above the bank’s 2% target. Energy and food prices saw the biggest price hikes, but core inflation, which strips out those components, remains at 6.3% year over year.
The Bank of England cut its key interest rate, known as the bank rate, to 0.1% in March 2020 in an effort to support growth and spending at the start of the coronavirus pandemic. However, when inflation began picking up sharply late last year, he was among the first major central banks to begin the hiking cycle at their December meeting.
This is the seventh straight hike and takes UK interest rates to a level last seen in 2008.
In a statement explaining its decision, the bank noted fluctuations in wholesale gas prices but said the government’s announcement of caps on energy bills would limit further increases in CPI inflation. However, he said there have been other indications since August of “domestic inflation remaining strong”.
She added, “The labor market is tight, and the domestic cost and price pressures are still high [energy bill subsidy] It reduces inflation in the near term, and it also means that household spending is likely to be less weak than projected in the August report during the first two years of the forecast period.”
Five MPC members voted for a 0.5 percentage point increase, while three voted for a 0.75 percentage point increase that many had been expecting. One member voted with an increase of 0.25 percentage points.
The bank said it is not on a “pre-determined path” and will continue to evaluate the data to determine the size, pace and timing of future changes in the bank’s interest rate. The committee also voted to start selling UK government bonds held in the asset purchase facility shortly after the meeting and noted a “sharp increase in government bond yields globally”.
The bank’s decision comes against the background of the increasing weakness of the British pound, expectations of a recession, the European energy crisis and the program of new economic policies due to be presented by new Prime Minister Liz Truss.
Sterling hit multi-decade lows against the dollar this week, trading below $1.14 until Wednesday and dropping below $1.13 early Thursday. It has fallen sharply against the dollar this year and was last at that level in 1985. It rose 0.2% after the Bank of England decision with a full 0.5 percentage point rise.
The pound’s depreciation resulted from a combination of strength in the dollar – traders flock to safe-haven investment amid global market volatility and with the US Federal Reserve raising its own interest rates – and a bleak outlook for the British economy. .
Several analysts, along with the British Chambers of Commerce business association and the Bank of England itself, said they expect the UK to enter a recession before the end of the year. In addition to energy price shocks, it faces trade bottlenecks due to Covid-19 and Brexit, plunging consumer confidence and plunging retail sales.
On the other hand, the country’s newly formed government has put several important economic policy proposals out this month ahead of the “fiscal event”, dubbed the mini-budget, when it is officially announced on Friday.
This is expected to include a reversal of the recent rise in the National Insurance tax, tax cuts for businesses and homebuyers, and a plan for “investment zones” with lower taxes.
Truss has repeatedly stressed a commitment to lower taxes in an effort to boost economic growth.
However, the energy crisis also means that the government has announced a massive spending package to curb high bills for households and businesses.
Data published on Wednesday showed that the British government borrowed 11.8 billion pounds ($13.3 billion) last month, nearly double what was expected and 6.5 billion pounds more than in the same month in 2019, due to higher government spending.
The UK is not alone in raising interest rates to combat inflation. The European Central Bank raised interest rates by 75 basis points earlier this month, while the Swiss Central Bank increased by 75 basis points Thursday morning. The US Federal Reserve raised its benchmark rate range by the same amount on Wednesday.