The Bank of England surprised markets on Thursday by raising interest rates for the first time in two years, citing concerns that inflation would stay above its 2.0% target for a while.
Most economists said the quarter percentage point rise to 4.75% was likely to be a one-off move, but bond prices fell and sterling gained more than a cent against the dollar.
While the majority of economists had predicted the bank’s Monetary Policy Committee would leave rates unchanged for the 12th month running, it was always going to be a close call. The MPC felt it was time to reverse last August’s quarter-point cut as the economy has strengthened to above its long-run trend rate and inflation is already running half a percentage point above its target.
“The pace of economic activity has quickened in the past few months. Household spending appears to have recovered from its post-Christmas dip,” it said in a statement accompanying the decision.
“CPI inflation picked up to 2.5% in June, and is expected to remain above the 2.0% target for some while. Higher energy prices have led to greater inflationary pressures, notwithstanding muted earnings growth and a squeeze on profit margins.”
European bonds markets also fell in sympathy as they awaited an expected rate rise from the European Central Bank. The Bank will publish its new quarterly forecasts for growth and inflation next Wednesday.
“The MPC are likely to be wary that the market does not interpret today’s move as the first in a string of hikes,” said Alan Clarke, economist at BNP Paribas. “As a result, we believe the upcoming Inflation Report will be used to manage expectations that today’s hike was a one-off.”