September 14, 2017 / 11:10 AM / a month ago

Bank of England paves way for first rate hike in a decade

LONDON (Reuters) - The Bank of England said it was likely to raise interest rates in the coming months if the economy and price pressures keep growing, giving its clearest signal to date that Britain’s first rate hike in a decade is approaching.

Pedestrians walk past the Bank of England in the City of London, Britain, May 15, 2014. REUTERS/Luke MacGregor/File Photo

The BoE said its tolerance for above-target inflation was lessening even if Britain’s departure from the European Union remained a risk. Data this week showed prices rising faster and unemployment falling to a four-decade low.

Policymakers voted 7-2 on Thursday to keep rates on hold at a record-low 0.25 percent, as expected.

But the new guidance from the BoE pushed sterling to a one-year high against the U.S. dollar. Investors priced in a more than 50 percent chance of a rate hike before the year’s end.

The BoE said the economy now looked closer to running at full capacity as employment rose and wages picked up, boosting inflation pressures.

If this continued, most of its policymakers felt “some withdrawal of monetary stimulus was likely to be appropriate over the coming months,” it said.

Governor Mark Carney said he was among the BoE rate-setters who felt the balance of risks for the economy was shifting away from a Brexit slowdown and toward rising inflation, meaning the chance of a rate hike had “definitely increased”.

“I would describe (a rate hike in) November as being live,” Nomura economist George Buckley said.

Other economists said they still thought the BoE was in no hurry, given the slowdown in Britain’s economy this year and the doubts about what leaving the EU in 2019 will mean.

“We see this as an attempt to shake markets out of their complacency after the failure of previous, subtler, attempts,” Andrew Goodwin, an economist at Oxford Economics, said.

BREXIT DILEMMA

The Brexit vote has put the BoE in a dilemma. On the one hand, it wants to support the economy through its EU divorce, leaving it behind other central banks raising interest rates such as the U.S. Federal Reserve.

But at the same time, it needs to keep a grip on inflation which rose sharply after the Brexit vote weakened the pound.

The BoE has previously suggested a rate hike was nearing only to be caught out by surprises in the economy, earning Carney the epithet of “unreliable boyfriend” from a politician.

Indeed, the BoE said on Thursday there were “considerable risks” to the outlook, including Brexit.

Next week Prime Minister Theresa May is due to give a speech on Brexit and her Conservative Party holds a conference in October. May will also attend an EU summit next month.

Economists at Citi said there still hurdles in the way of a rate hike. “If these events pass without significant effect on economic confidence, if inflation exceeds 3 percent in October and if the labor market continues to tighten, a 25 basis-point Bank Rate hike could become a reality for November,” they said.

Most economists had been expecting a first rate hike by the BoE only in 2019, according to a Reuters poll last month.

BETTER THAN EXPECTED?

The BoE said on Thursday that the economy had done a bit better than expected since its policymakers met in August, but it was unclear how sustained any increase in growth might be.

Inflation was likely to rise further above its 2 percent target and exceed 3 percent in October, slightly more than previous forecasts, after reaching 2.9 percent last month.

Most economists judge that wage growth is still weak at 2.1 percent year-on-year in July. But the BoE surprised many of them, saying pay was rising at an annualized rate of 3 percent when measured over a shorter period. Furthermore, statistical effects might be making pay look too low, it added.

The BoE also said there were signs consumer demand might now be picking up after inflation hurt spending earlier this year.

And it repeated its warning that Britain could no longer grow as fast as it had in the past without causing excessive inflation.

Two policymakers, Ian McCafferty and Michael Saunders, voted once again to raise rates to 0.5 percent to reverse the emergency cut made in August 2016 shortly after the Brexit vote.

Some analysts had expected BoE Chief Economist Andy Haldane to join the dissenters.

Gertjan Vlieghe, who was the first MPC member to vote for a rate cut after the Brexit vote, is due to speak on Friday while Carney will make a speech on Monday.

Editing by Toby Chopra and Jon Boyle

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