After years of being anchored close to zero, the Bank of England has raised the UK base interest rate for the second time in two months by 0.5 percentage points to 2.25 per cent on Thursday
In August, the rate rose from 1.25 per cent to 1.75 per cent, the largest increase in nearly three decades. With expectations of a three quarters of a per cent rise the pound gave up its gains following the announcement on Thursday to trade below the $1.13 threshold.
The Bank of England said it would continue to “respond forcefully, as necessary” to inflation, despite the economy entering recession.
The central bank estimates Britain's economy will shrink 0.1 per cent in the third quarter — partly due to the extra public holiday for Queen Elizabeth's funeral — which, combined with a fall in output in the second quarter, meets the definition of a technical recession.
Economists polled had forecast a repeat of August's half-point increase in rates, but financial markets had bet on a three-quarter-point rise.
It is the highest interest rate that the UK has had since the financial crisis. In December 2008 the base rate was slashed from 3 per cent to 2 per cent.
Here, The National shows five charts that the bank believes justify its monetary intervention.
1. Debt
The government's gross debt currently stands at £2,365.4 billion ($2,698.7bn), equal to 99.6 per cent of gross domestic product — an increase of £195.2 billion year-on-year. With the current inflation rate already raising the cost of borrowing, further unplanned borrowing will add more pressure.
The Institute for Fiscal Studies has warned the Government was putting the public finances on an “unsustainable path” with borrowing set to hit £100 billion a year even after the energy support package has ended – more than double the official forecasts last March.
The prospect of persistent deficits in the current budget and debt rising as a share of national income meant, it said, both the main fiscal targets set in January will have been missed.
2. Inflation
The decision to raise interest rates is a bid to keep inflation under control. It is the best tool that the Bank of England has to steer inflation — currently at 9.9 per cent — back to its 2 per cent target.
Higher interest rates mean rising borrowing costs for everyone, including the government. The seventh interest rate increase in a row will also have a major impact on people’s finances, not least those with mortgages who will need to start paying more for their home loans.
3. G7 comparison
UK inflation is the highest in the Group of Seven economies and Alice Haine of BestInvest said the outlook for prices is to remain high, given the international factors at play “Inflation may have come in lower than expected in the 12 months to August at 9.9 per cent, down from 10.1 per cent in July, but it is still alarmingly high as the cost-of-living crisis fuelled by global challenges, namely Putin’s war with Ukraine, rumbles on," she said.
"As a result, the BoE still expects inflation to peak at just under 11 per cent in October despite Truss’ energy plan, as the resulting boost to economic activity from the two-year freeze on energy bills and Chancellor Kwasi Kwarteng’s swathe of tax cuts set to be unveiled in the mini-budget on Friday could see inflation stay higher for longer.
4. GDP
The central bank had previously projected the economy would grow in the current financial quarter but said it now believes Gross Domestic Product (GDP) will fall 0.1 per cent.
The would follow after a reported 0.2 per cent fall in GDP in the second quarter and would mean the economy is currently in recession.
A technical recession is when the economy shrinks for two quarters in a row.
5. Moribund pound
Sterling has been weak against the dollar for months, largely because of the strength of the US currency.
The euro has also been at multi-decade lows against the dollar.
