LONDON (Reuters) - The Bank of England kept interest rates at a record low Thursday, reluctant to jeopardise a fragile economic recovery and hopeful the recent surge in inflation will prove temporary.
All but one of the 63 economists polled by Reuters last week had predicted rates would stay at 0.5 percent. However, with inflation double the central bank’s 2 percent target and still rising, most expect a rate rise later this year.
Money markets show a 70 percent chance the Bank will raise rates by a quarter percentage point in May and are fully pricing such a move by the middle of the year.
The European Central Bank, dealing with an inflation rate nearly half the level of Britain’s, has already signalled that an interest rate rise in imminent.
Three of Britain’s nine-strong Monetary Policy Committee voted to raise interest rates in February, so it would only take two to switch camps to get a majority in favour of higher rates. The bank gives no statement on its reasons when it keeps rates on hold and minutes from the meeting — including how the committee voted — will not be published until later this month.
“With the committee expected to begin tightening over the coming months, and a hike requiring the support of just two more members, UK markets look set to remain jittery,” said Philip Shaw, an economist at Investec.
The main argument keeping the Bank on hold is the weakness of Britain’s recovery and the fear that the government’s austerity drive will throw up stiff headwinds over the coming year.
Unlike its main trading partners, Britain’s economy lurched into reverse at the end of 2010, contracting by 0.6 percent in the fourth quarter.
While the country’s manufacturing sector is enjoying a strong rebound, the services sector, which accounts for three-quarters of the economy, is struggling.
Home Retail, Britain’s biggest household goods retailer, delivered a profit warning Thursday, raising fears of a major downturn in consumer spending.
The government announced the biggest public spending cuts in a generation shortly after being elected last year, but much of the pain from these measures will not kick in until April, the start of the new fiscal year.
“The majority of MPC members likely decided that higher interest rates were an extra handicap that the economy could do without for now at least,” said Howard Archer at Global Insight.
“The key question is will this prove to be a temporary reprieve on interest rates or will the Bank of England hold fire for some time to come?”
Most investors believe the Bank will want to see how the economy fared in the first quarter of this year before acting. This means a rate rise is unlikely to come before May.
There remains a good deal of uncertainty however. Tensions in north Africa and the Middle East have pushed up oil prices, driving up inflation but also weighing on global growth.
“The Monetary Policy Committee remains caught on the horns of a dilemma,” said Robert Gardner, chief economist at the Nationwide Building Society.
“Growth is still disappointingly weak, while inflation is already twice the target level and likely to head higher, with oil above $100 a barrel and January’s VAT hike still filtering through.”
UK interest rates have stood at 0.5 percent since March 2009 when the Bank slashed rates to an all-time low and embarked on an unprecedented program of quantitative easing.
However, divisions on the monetary policy committee have deepened in recent months and the replacement of arch-hawk Andrew Sentance with Goldman Sachs’ economist Ben Broadbent in June adds to uncertainty.
Minutes to this week’s Bank policy meeting will be published on March 23, the same day as the government’s Budget, and will be closely scrutinised.
Additional reporting by David Milliken, Fiona Shaikh and Peter Griffiths; Editing by Hugh Lawson and Patrick Graham