The Bank of England is expected to raise interest rates again on Thursday, putting the UK well ahead of the rest of Europe and the US in tackling soaring inflation weighing on consumers and businesses .
Economists and investors expect the bank’s monetary policy committee to raise its key rate to 0.5%, the second hike in three months. This could lead the bank to start reducing the bond holdings it has accumulated since the global financial crisis more than 10 years ago to stimulate economic growth.
The decision comes a week after the US Federal Reserve announced it would end its own asset purchases in March and likely raise interest rates for the first time in more than three years. Monetary policymakers around the world are trying to contain inflation fueled by rising energy prices and supply shortages as the global economy recovers from the COVID-19 pandemic.
By contrast, the European Central Bank does not expect to raise rates until 2023 despite record inflation, blaming it on temporary factors. But he decided the economic recovery was strong enough to start carefully scaling back some of his stimulus efforts over the next year. It also meets on Thursday.
In the UK, consumer prices rose 5.4% in the year to December, the highest rate of inflation for almost 30 years. The pressure will only get worse, with household energy prices set to jump 50% in April and income taxes set to rise 1.5% in the same month.
“Weaker growth and higher inflation align with our overall interpretation: a more intense negative supply shock,” Bank of America Securities analysts said in a note to investors. “The market has therefore priced in earlier and more numerous (rate) hikes, which raises the prospect that the BoE will soon begin to actively reduce its balance sheet.”
Investors now expect the Bank of England to raise its key rate three times this year, pushing it to 1% by August.
The bank adjusts interest rates trying to keep the inflation rate below 2% while promoting economic growth.
Higher interest rates increase the amount borrowers pay on everything from home mortgages to credit card purchases, reducing spending and slowing price increases. Lower rates tend to encourage spending and increase economic growth.
The Bank of England began buying UK government bonds and corporate bonds held by financial institutions in 2009 to pump money into the economy during the global financial crisis. Policymakers were forced to turn to asset purchases after cutting interest rates to 0.5%, limiting their ability to use interest rates to stimulate economic growth.
With rates remaining near record lows, the bank continued to buy bonds during the shocks caused by Britain’s departure from the European Union and the pandemic. It is now the largest holder of UK public debt, holding 875 billion pounds ($1.18 trillion) of government bonds, known as gilts.
Last August, the bank said it would start reducing its bond holdings once the key interest rate reached 0.5%, “if appropriate given economic circumstances.”
The bank said it would gradually reduce holdings, initially by not reinvesting the money it takes from maturing bonds. Sales of the assets would not begin until rates hit 1%, the bank said.
This strategy contrasts with the Federal Reserve, which will likely take a more laddered approach, ING economists Antoine Bouvet and James Smith said in a note to investors.
“Despite this bolder start, the early stages of the BoE’s balance sheet reduction…seem manageable,” they wrote.