Rising UK inflation traps central bank between growth and rising prices

The BoE has raised its policy rates twice in recent months, moving faster than any other major central bank to curb rising prices due to global supply shortages and high energy costs.

Rising inflation presents policymakers in the UK and elsewhere with a tough challenge. They should raise interest rates to tame inflation, which threatens to spread further, but without stifling recovery and tipping their economies into recession.

The threat of a Russian invasion of Ukraine is worsening the outlook for policymakers, with the risk that it could further raise energy prices.

The Office for National Statistics said on Wednesday that consumer prices in the UK rose 5.5% in January from a year earlier – the highest since March 1992. In December, consumer prices rose 5.4% year-on-year. Coming on top of rising costs of some household goods and rent, clothing and footwear contributed significantly to the increase in January.

When the BoE meets next month, the latest data will strengthen the case for a third consecutive rate hike. The Federal Reserve is also moving to tighten monetary policy after inflation hit a four-decade high in January, rising to a 7.5% annual rate.

According to the BOE, in the UK, inflation has peaked above 7% in April, when higher bulk gas prices are passed on to UK consumers.

In its last meeting, the BoE indicated that more tightening would be required to bring inflation back to its 2% target.

The BoE expects annual inflation to fall to 5% by the beginning of 2023.

Four of the nine members of the BoE’s rate-setting panel voted for a larger rate increase than the 25-basis-point increase, which ultimately agreed, reflecting concerns that inflation was spreading to other parts of the economy. Is.

“With that in mind, I suspect there will be a significant change in the growth outlook to stop the committee hiking again in March,” said James Smith, a developed market economist at ING.

At 0.5%, the BOE’s policy rate currently sits a quarter percent below where it was before the pandemic. Economists expect further increases in the rate to be gradual as inflation moderates over the course of the year due to the level of energy prices.

“As markets are pricing in order to justify six more rate hikes this year, we need to see signs of a pay-price spiral. We’re not sure that’s possible,” ING said in a note.

While wage growth accelerated late last year, British households are facing the biggest drop in real income for 30 years due to inflation and tax hikes planned in the spring. It is set to weigh on growth as consumers cut spending.

Britain grew 7.5% last year – the strongest performance among the group of seven largest prosperous economies. But after facing the biggest downturn in 2020, it had to climb further to regain its pre-pandemic size. And the economy contracted in the last month of 2021 as the Omicron version hit hospitality and other consumer services.