Bank of England to hold rates, despite inflation fears

Published on Friday 30 July 2010 12:17

INTEREST rates are set to remain at 0.5 per cent this week despite a split among monetary policy committee members over when to tackle Britain's stubborn inflation problem.

Bank of England governor Mervyn King admitted to the UK Parliament last week that inflation, which currently stands at 3.2 per cent, would remain above the MPC's 2 per cent target throughout most of next year.

Economists warn that the question of when to raise interest rates will become increasingly thorny over the next few months as MPC members weigh uncertainties over short-term economic growth with persistently high consumer prices. At the committee's last meeting in June, Andrew Sentance broke ranks and voted for a 0.25 per cent interest rate rise amid mounting inflationary concerns.

Better-than-expected GDP growth in the second quarter of 1.1 per cent has added to pressure on the MPC to increase rates and bring inflation under control. The Paris-based Organisation for Economic Co-operation and Development in particular has warned of a looming inflation crisis in Britain and has called for borrowing rates to be hiked before the end of the year.

However, with UK Government spending cuts expected to have a dramatic effect on GDP growth from the second half of this year, business groups are warning MPC members not to raise interest rates prematurely. There are fears that Britain will fall into a period of "stagflation" where the economy is hit by a perfect storm of high consumer prices and anaemic GDP growth.

Although the MPC is expected to maintain rates at 0.5 per cent at its monthly meeting this week, economists will be watching closely for signs of how the Bank views the inflation threat.

"The outlook for interest rates has become a lot more uncertain," said Howard Archer, chief UK and European economist at IHS Global Insight.

David Kern, chief economist at the British Chambers of Commerce, todaywarned there is "no room for complacency" despite the recent encouraging GDP figures. "It is vital that the MPC keeps interest rates as low as possible, for as long as possible," he said.