Following the Bank of England’s surprise increase in borrowing costs on Thursday—a move intended to combat persistently high inflation but which will have a significant negative impact on borrowers, especially homeowners who must refinance in the near future—fears of a British economic recession increased sharply.
The Bank of England said that its nine-member Monetary Policy Committee has increased its main interest rate by half a percentage point to 5%, a new 15-year high, on a busy day for central bank activity in Europe. All of the panelists—all but two—supported the addition of one half-point.
Most analysts had predicted a lesser quarter-point increase, so the bank’s 13th consecutive raise came as a bit of a surprise in terms of scale.
Bank Governor Andrew Bailey issued a warning about additional rises if inflation does not show definite indications of decline.
“We are committed to returning inflation to the 2% target and will make the decisions necessary to achieve that,” he declared.
It is obvious that the failure of inflation in the U.K. to decline as quickly as anticipated has alarmed rate-setters. More people are blaming the bank for taking too long to start raising borrowing rates as well as Britain’s exit from the European Union, which has increased import costs, for the inflation is stickier than in other large countries.
According to data released on Wednesday, U.K. inflation surprisingly remained at 8.7%, raising concerns about the direction of prices after forecasts called for a little drop to 8.4%.
Fast wage growth makes it increasingly obvious that high inflation is ingrained in the economy.
Although the economy is performing better than anticipated, inflation is still too high, and we must deal with it, according to Bailey. “We are aware of how challenging this is; many borrowers who have mortgages or loans will understandably be concerned about what this means for them. However, if we delay raising rates, things could get worse.
The Swiss National Bank and Norway’s central banks both made decisions to raise interest rates on Thursday that will increase borrowing costs throughout Europe. In a hint of a departure from exceptional economic strategies, Turkey dramatically increased.
In order to reduce inflation, which was initially fanned by supply chain disruptions related to the recovery from the epidemic and later by Russia’s invasion of Ukraine, banks all over the world, including the U.S. Federal Reserve and the European Central Bank, swiftly increased interest rates. The Fed has now taken a break, but it still warned that this year might see additional hikes.
By making it more expensive for people and businesses to borrow money, higher interest rates help to reduce inflation by reducing demand and the upward pressure on prices.
Borrowers will be put under more stress as a result of the U.K. rate increase, especially the 1.4 million or so people who may need to renew their mortgages in the coming months.
The rises will undoubtedly be expensive, and there are worries about the prognosis for the British economy, which has so far managed to avoid going into recession despite the fact that the continent’s economy marginally shrank in the six months leading up to March.
According to Luke Bartholomew, senior economist at asset management company abrdn, “it is getting harder to see how the U.K. avoids a recession as part of the process of bringing inflation down.” And the significant rate increase of today will undoubtedly be viewed in hindsight as a key step toward that recession.
A recession would undoubtedly lead to more unemployment and a rise in home foreclosures, hardly the conditions the Conservative administration wants as it prepares for what is likely to be a general election the following year. In polls, it is performing worse than the main opposition Labor Party.
Jeremy Hunt, the head of the Treasury, declared that despite the potentially painful consequences, the fight against inflation must come first.
He stated, “This is the only long-term option to ease pressure on people with mortgages, so our resolve to accomplish this is watertight. “Things will get worse if we don’t take action now.”
Not everyone agrees that the bank is acting correctly; some contend that past interest rate rises have not yet fully impacted the economy.
According to Paul Nowak, general secretary of the Umbrella Trades Union Congress, “pushing interest rates so high that the economy is driven into recession will only make the current crisis worse, costing people their jobs and their homes.”
