Bank of England raises interest rates for the first time in 10 years

As widely anticipated, the Bank of England’s Monetary Policy Committee (MPC) has today decided to raise interest rates by 0.25 percentage points, to 0.5% -- the first interest rate rise in 10 years. The MPC voted by a majority of 7-2 to increase the Bank Rate, reflecting a broad consensus (if not a unanimous view) for the need for a rate rise in order to return inflation sustainably to its 2% target.
 
The rise of CPI inflation to 3% in September – due to the fall in the pound following the Brexit vote --is one of the major factors in the MPC’s decision. The other is that with unemployment now at historic lows, the remaining slack in the UK economy is limited. Despite the UK economy not experiencing particularly high levels of growth, the MPC now believes that growth has now reached its “new lower speed limit” of growth without generating inflationary pressures. This reflects a largely pessimistic view of UK productivity, which has hardly risen in the past decade and is expected to be further impacted by “Brexit-related constraints on investment and labour supply.”
 
In terms of the potential impact of this decision, it appears that the household sector as a whole is reasonably well placed to absorb a small rise. The UK household sector is currently spending 9.7% of its income on debt interest payments.  This is low by historic standards (the peak in 2008 was 13.3%). In addition, the rise won’t be fully passed on to mortgage holders in the first instance -- 60.9% of all outstanding mortgages are currently on a fixed rate. That is up from 32.0% at the end of 2012.
 
The MPC Minutes indicate that the prospect of further rate rises appears to be fairly limited and gradual.  This may disappoint those who expected further increases. It’s worth noting that Sterling fell against the Dollar and the Euro on the news of the announcement. The Committee further notes that there remain considerable risks to the UK economic outlook, with much dependent on the outcome of Brexit negotiations and the UK’s eventual trading relationship with the EU.