LONDON (Reuters) - The Bank of England kept its key interest rate at a record low 0.5 percent as expected on Thursday, judging that longer-term downward pressure on prices will quell an expected short-term spike in inflation.
Consumer price inflation was 3.3 percent in November and is forecast to rise to 4 percent in the coming months due to higher food and fuel costs and last week’s rise in the sales tax.
But the central bank forecasts that by early next year inflation will fall back to its 2 percent target — which it has exceeded since December 2009 — as it does not expect the temporary rise in inflation to have a lasting effect.
Economists polled by Reuters last week were unanimous in the view that the Bank would keep its interest rates on hold and make no change to the 200 billion pounds of quantitative easing asset purchases conducted from March 2009 to February 2010.
However, financial markets are now pricing in a strong chance of an interest rate hike as early as May, as they predict the Bank will be forced to take action to defend its credibility in the face of rising public inflation expectations.
Minutes of the Bank Monetary Policy Committee’s meeting on Wednesday and Thursday will not be published until January 26, but economists expect a repeat of the three-way split that has been in place since October.
MPC member Andrew Sentance has been calling for a rate rise since June, now that the economy is no longer in recession, while his colleague Adam Posen believes more quantitative easing is needed due to a lack of bank lending to support the recovery.
The other 7 members of the MPC have voted to keep policy unchanged.
The Bank faces a high degree of economic uncertainty at the moment. The coldest December in 100 years has made it hard to judge the underlying rate at which the economic recovery is losing pace.
While Britain’s small manufacturing sector is getting a strong boost from exports, the domestically focussed services sector is suffering from weak demand due to high household indebtedness and looming government spending cuts.
Reporting by David Milliken; Editing by Hugh Lawson