UK central bank hikes rates like Fed amid financial turmoil
The Bank of England extended its battle against inflation on Thursday, announcing an 11th consecutive interest rate increase despite concerns about the economic fallout from troubles in the global financial system.
Britain’s central bank boosted its key rate by a quarter-percentage point to 4.25 per cent, a day after the US Federal Reserve approved a similar move to tame price increases that are crimping household budgets and slowing economic growth.
The decision followed unexpected news that inflation in the United Kingdom accelerated to 10.4 per cent in February, driven by the cost of food, clothing and dining out. Before the figures were released on Wednesday, many analysts had expected the Bank of England to keep rates on hold following the collapse of two banks in the United States and the hastily arranged takeover of Swiss banking giant Credit Suisse.
“A banking curve ball has been thrown into the Bank of England’s already-tricky juggling act, but for now the eye of policymakers is still firmly trained on catching inflation and bringing it under control,” said Susannah Streeter, head of money and markets at Hargreaves Lansdown, which manages more than ₤120 billion (US$147 billion) for investors.
Still, Thursday’s move was the smallest rate hike since May 2022, with the Bank of England forecasting a drop in inflation to 2.9 per cent by the end of the year, as energy costs fall and the big price increases recorded last year drop out of calculations.
As it did last month, the central bank indicated that it no longer has a presumption for further rate increases, saying only that it would closely monitor price pressures in the economy.
“If there were to be evidence of more persistent pressures, then further tightening in monetary policy would be required,” the bank said.
Raising interest rates increases the cost of borrowing, which reduces spending and relieves upward pressure on prices. But it also tends to slow economic growth.
Central bankers worldwide are struggling to balance competing economic demands as they try to rein in inflation, which erodes savings and increases costs for consumers and businesses, without unnecessarily damaging economies weakened by the COVID-19 pandemic and Russia’s war in Ukraine.
Following the collapse of Silicon Valley Bank in the United States and the turbulence it unleashed on the global financial system, policymakers are concerned that banks around the world may curtail lending, further crimping economic growth.
The Bank of England said on Thursday that it had determined that British banks are “resilient”.
“The UK banking system maintains robust capital and strong liquidity positions, and is well placed to continue supporting the economy in a wide range of economic scenarios, including in a period of higher interest rates,” the central bank said.
That echoed the words of Fed Chair Jerome Powell, who sought to reassure Americans that their bank deposits were safe as the Fed raised its key rate by a quarter-point on Wednesday.
The Swiss central bank also went higher, hiking by half a point on Thursday and declaring that the government-orchestrated takeover of Credit Suisse by Swiss rival UBS “put a halt to the crisis”.
A week ago, the European Central Bank increased rates by a half-point, brushing aside the financial market jitters and calling Europe’s banking sector resilient.
The Bank of England was among the first to begin raising borrowing costs after a prolonged period of low interest rates following the 2008 global financial crisis. In 11 hikes since December 2021, the key rate went from just 0.1 per cent to 4.25 per cent.
The rapid rise in interest rates worldwide squeezed the finances of some banks because it reduced the value of their bond holdings.
As they assess the potential impact that higher rates are having on banks, policymakers also are weighing how long it will take recent increases to flow through to the broader economy.
If they wait too long to stop raising rates, they risk slamming the breaks on already-anaemic growth. If they stop too soon, they risk inflation becoming embedded in the economy.
Luke Bartholomew, senior economist at the UK-based fund manager abrdn, said he expects Thursday’s move to be the last rate increase of this cycle, because the impact of past hikes and recent market volatility will begin to slow economic growth.
“However, there is still a significant risk of one final rate increase if inflation proves to be a bit stickier in coming months,” he said.
The Bank of England will have to make that decision in an even more complex environment than other central bankers.
A high level of dependence on natural gas and limited storage capacity left British energy users particularly exposed to the surge in global gas prices following Russia’s invasion of Ukraine. Britain also is still adjusting to the impact of leaving the European Union, which reduced trade with its neighbours, curtailed the supply of cheap labour, and slowed economic growth.
UK inflation is stuck above 10 per cent, while it dropped to 8.5 per cent last month in the 20 countries sharing the euro, and to 6.0 per cent in the US.
Treasury chief Jeremy Hunt applauded the central bank’s decision.
“With rising prices strangling growth and eroding family budgets, the sooner we grip inflation the better for everyone,” he said.