The Bank of England held interest rates at 3.75% on Thursday but shifted its tone toward a possible hike, warning that inflation could top 4% in early 2027. The pound slipped against the dollar as gilt yields dropped sharply after the decision.
The Bank of England's Monetary Policy Committee voted 6-3 to hold rates at 3.75%, matching July's vote and economists' median forecast in a Reuters poll. But the minutes from this week's meeting marked a clear shift in tone that positions the BoE to follow the European Central Bank and the U.S. Federal Reserve toward raising borrowing costs.
Governor Andrew Bailey said the key question of whether the energy price surge feeds into broader inflation remained unanswered. According to Reuters: "That feed-through has been quite subdued, but it is early days". Chief Economist Huw Pill and external MPC members Megan Greene and Catherine Mann again voted to raise rates by a quarter-point, while Bailey and his deputies Sarah Breeden, Clare Lombardelli and Dave Ramsden all signalled they could back a rate hike.
Inflation risks tilt higher
The BoE said inflation risks had tilted further to the upside since its July forecasts, adding that the move in energy prices since then resembled its "adverse" scenario that risked entrenching inflation. It bumped its Q3 growth estimate to 0.4% from 0.1%.
It said inflation, at 3.1% in August, could now reach slightly over 4% in early 2027, more than double its 2% target. That is up from its previous forecast of peak inflation of 3.2% in late 2026. Inflation has exceeded the 2% target in all but three months over the past five years.
Pound and gilts react
The pound fell by around half a cent against the dollar, and British government bond yields dropped sharply after the rate decision and the announcement of an overhaul to the BoE's bond-selling plan.
BoE rewrites bond-sale plan
The BoE also paused active gilt sales for six months while it finalises a longer-term plan to unwind its bond holdings. The MPC aims to cut its gilt holdings for monetary policy purposes to zero by 2034, while retaining long-dated gilts only to back the issuance of bank notes. It will sell gilts maturing between 2035 and 2049 back to the government, with full plans due before April 2027, while gilts maturing before 2035 will be held to maturity.
This warning of a possible rate hike lands at a difficult time for Prime Minister Andy Burnham and finance minister John Healey, who are trying to strike a positive tone about the economy before the October 28 budget.
Source: Investing.com
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