The Bank of England has cut interest rates for the fifth time in a year to 4% but warned that climbing food prices will cause inflation to jump higher this year.
In a tight decision that saw members of the rate-setting committee vote twice to break a deadlock, the Bank cut interest rates to the lowest level in more than two-and-a-half years. Households on a variable mortgage of about £140,000 will save about £30 a month.
Andrew Bailey, governor of the Bank of England, said: “We’ve cut interest rates today, but it was a finely balanced decision. Interest rates are still on a downward path, but any future cuts will need to be made gradually and carefully.”
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The Monetary Policy Committee (MPC), the nine-member panel that sets the base interest rate, voted in favour of lowering borrowing costs by 0.25 percentage points.
However, rate-setters failed to reach a unanimous decision, with 4 members of the committee voting to keep rates on hold and another four voting for a 0.25 percentage point cut.
Alan Taylor, an external member of the committee, initially called for a larger 0.5 percentage point cut but after a second vote reduced that to 0.25% to break the deadlock. Had they failed to reach a decision Andrew Bailey, the governor, would have had the decisive vote.
It is the first time the committee has gone to a second vote and highlights the difficulty policymakers face in navigating the current economic climate, in which economic growth is stagnating – with at least one rate-setter fearing a recession- but inflation remains persistent.
Although the central bank voted to cut borrowing costs, it also raised its inflation forecasts on the back of higher food prices.
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The bank predicted that the headline rate of inflation would hit 4% in September, up from a previous estimate of 3.75%.
The September inflation rate is used to uprate a range of benefits, including pensions.
The increase was driven by food, where the inflation rate could hit 5.5% this year. About a tenth of household spending is devoted to food shopping, which means it can have an outsized impact on inflation.
The Bank said this risked creating “second round effects,” whereby a sense of higher inflation forces people to push for pay rises, which could push inflation even higher.
Economists at the Bank blamed poor harvests, weather conditions, and changes to packaging regulations but also – in a blow to the chancellor – higher labour costs.
It pointed out that a higher proportion of workers in the food retail sector are paid the national living wage, which Rachel Reeves increased by 6.7% in April.
Economists at the bank also blamed higher employment taxes announced in the Autumn budget. “Furthermore, overall labour costs of supermarkets are likely to have been disproportionately affected by the lower threshold at which employers start paying NICs… these material increases in labour costs are likely to have pushed up food prices.”
There is also evidence that Employers’ National Insurance increases are causing businesses to curtail hiring, the bank said. It comes as unemployment in the UK rose unexpectedly to a fresh four-year high of 4.7% in May. Separate data shows the number of employees on payroll has contracted for the fifth month in a row,
The Bank said the unemployment rate could hit 5% next year and warned of “subdued” economic growth, with one member – Alan Taylor – warning of an “increased risk of recession” in the coming years.
