Bank of England interest rates: Why the MPC must raise the UK’s interest rates, instead of continuing to twiddle their thumbs
Today, to the surprise of no one, the Bank of England Monetary Policy Committee (MPC) left interest rates at their current level of 0.5 per cent, its view justified by headline inflation that is, to all intent and purpose, zero per cent.
This may appear sensible on the face of it – after all, why should the MPC be raising rates when there is no inflation?
The problem is that interest rates are not set in response to today’s level of inflation, but the expected level of inflation in two years.
Very few of us – and certainly not the MPC – have a great record of accurately forecasting inflation two years ahead. However, there are certain things that can be reasonably assumed in building an inflation forecast at the current time.
Firstly, the oil price is unlikely to continue to fall at the rate it has done over the last 12 months. Its fall has had a significant impact on headline inflation, but if it stays where it is now its year-on-year impact will move from sharply negative to flat as we move into the new year.
Another factor that has recently depressed inflation is the supermarket price war. However, this is good for the consumer – the less spent on food, the more left for discretionary purchases.
Many commentators have stated that the economic recovery is one that has not been felt by “ordinary” people. But this is changing – employment has increased and real wages are now growing. Early indications are that GDP growth will pick up again after weakening slightly last quarter.
So growth is strong, the consumer is benefitting from lower petrol and food prices and wage growth has picked up as the employment situation has strengthened.
As a result, we will likely get a pickup in inflation and conditions in two years’ time will not justify 0.5 per cent interest rates at present.
The members of the MPC are aware of all these things. However, with one (or possibly two) laudable exceptions, they will twiddle their thumbs, gaze at their navels and do nothing.