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Bank of England to hold back on rate rises despite inflation fears

Tim Wallace


The economy will be allowed to heat up before interest rates are raised, despite mounting concern over inflation in debt markets that threatens to make massive pandemic borrowing less affordable.

Bank of England rate setters unanimously voted to hold the base rate at 0.1pc on Thursday for the second time this year, and indicated no action will be taken to increase the cost of borrowing until the recovery is better established and prices are rising faster. They said there is “spare capacity” for growth without inflation overshooting the 2pc target.

The Bank’s Monetary Policy Committee said it “does not intend to tighten monetary policy at least until there is clear evidence that significant progress is being made in eliminating spare capacity and achieving the 2pc inflation target sustainably”.

The decision echoed the US Federal Reserve, which also maintained rock-bottom rates this week despite higher growth forecasts and market fears of runaway inflation.

Central banks are attempting to shepherd a strong recovery from the pandemic and have played down the risks of overheating. Nevertheless, bond markets wobbled on Thursday sending 10-year Treasury yields to a 14-month high of more than 1.75pc. The figure is among the most closely watched in global finance, as swings have knock-on effect on a host of other assets, including Britain’s borrowing costs.

Yields are increasing because underlying bond prices are falling. Traders are concerned that a post-lockdown boom, accelerated by President Biden’s $1.9tn stimulus and unleashed household savings, will drive inflation well beyond the normal target range and erode the value of bonds, which deliver fixed income.

Even as it held interest rates, the Bank of England said Britain’s faster-than-expected vaccine rollout had increased its expectations for the recovery. GDP fell by 2.9pc in January when the new lockdown struck, in “a smaller fall than Bank staff expectations”.

Officials said that its latest £150bn tranche of quantitative easing would continue “to support the economy and to help to ensure that weakness in the economy was not amplified by a tightening in monetary conditions that could slow the return of inflation to the target”.

It means Andrew Bailey, the Governor, and his colleagues are unlikely to take any action when inflation picks up in the coming months – a surge which is expected to be temporary. Economists believe any rise partly reflects weak prices last year rather than a rise in pressures in the economy now.

Speaking at an awards ceremony, Andy Haldane, the Bank’s chief economist, said: “I do think, more likely than not, we are in for a rapid-fire recovery, that’s coming and I think it’s coming soon.”

However rate setters cautioned that the outlook is “unusually uncertain” and policymakers have “a range of views” on the amount of spare capacity in the economy, indicating some may expect to raise rates sooner than others.

Financial markets showed some signs of uncertainty as oil prices slid by more than 5pc on the strength of the dollar combined with worries over the strength of the global recovery as parts of the EU go into new lockdowns.

Economists expect the Bank to step in with more support if the economy worsens, or if rising bond yields threaten the recovery.

“The Bank will be keeping one eye on the recent rise in gilt yields to ensure that this doesn’t put the brakes on the recovery, although this will not be a major concern provided it reflects continued improvements in the economy,” said Hugh Gimber at JP Morgan Asset Management.

“If intervention is required at a later date to steady the bond market, increased asset purchases would likely be the preferred option.”

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