The Bank has already raised interest rates twice in a row, the first time it has done this since 2004, with expectation mounting of another increase in March when the Monetary Policy Committee (MPC) next meets. Speaking to the National Farmers Union today, Sir Dave Ramsden, Deputy Governor for Markets and Banking, warned of “further modest tightening” to come in the coming months. Clarifying the word “modest”, Sir Dave said: “I do not envisage Bank Rate rising to anything like its pre-2007 level of five percent or above.” Instead, he pointed to market predictions for interest rates which now put them peaking at almost two percent.
At February’s meeting the MPC raised interest rates to 0.5 percent, up from 0.25 percent.
However, in a sign of the direction of travel for the Bank, it proved a close vote with four of the nine members, including Sir Dave, voting for a higher increase of 0.5 percentage points.
Speaking today, Sir Dave said: “Personally I felt that the 0.5pp increase in Bank Rate would have been warranted in February, in line with a watchful and responsive approach to monetary policy.
“I have been concerned about the emerging inflationary impetus from a tight labour market and from a broadening out in price pressures since last summer.”
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The Bank of England has become particularly concerned about inflation becoming more embedded in the economy as so-called second round effects take hold with businesses increasing prices to pass on higher costs and workers demanding higher salaries.
Governor Andrew Bailey recently attracted criticism for suggesting employees should show “restraint” when requesting pay rises.
Sir Dave echoed the concern over second round effects, saying: “We need to ensure that households and businesses recognise that we could not tolerate persistent overshoots of our inflation target and so do not factor expectations of persistent high inflation in to their own wage and price setting.
“And if necessary we need to take action to prevent that kind of persistence setting in.”
A recent factor complicating the Bank’s position is the unfolding tension between Russia and Ukraine which threatens to add further pressure to already soaring energy prices.
In a briefing note Neil Shearing, group chief economist at Capital Economics, wrote: “In normal times, central banks would tend to look through an energy-led rise in inflation, but given the current high rates of inflation, and corresponding concerns about it feeding higher inflation expectations, it’s possible that this adds to the list of reasons for policymakers to raise interest rates.”
According to Sir Dave, the majority of the inflation overshoot from the Bank of England’s two percent target is now accounted for by energy.
Inflation currently stands at 5.5 percent, however the Bank expect a peak of 7.25 percent in spring following a rise in Ofgem’s energy price cap which is expected to see consumer bills rise as much as 50 percent.
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Sir Dave warned that energy prices, combined with rising goods prices, would result in a “very significant squeeze on real household disposable incomes” which he explained would undergo the most significant squeeze in 30 years.
Adding to the pressure in April will be a 1.25 percentage point increase in National Insurance which has been criticised for its impact on both workers and employers.
While aimed at controlling inflation in the long run, higher interest rates will also apply pressure to those on variable rate mortgages, new mortgage applicants and people with high debt.
Sir Dave also accepted there were “risks from tightening monetary policy too much” with the Bank currently trying to navigate between the risks of inflation but also weak growth.