Bank of England Slashes Rates Amid Easing Inflation Pressures

By: Mehul Singh

In a significant move, the Bank of England has cut its base interest rate for the first time since the onset of the COVID-19 pandemic, reducing the Bank Rate to 5% from 5.25% by a narrow 5-4 vote. This decision, driven by easing inflationary pressures, reflects the Bank's commitment to maintaining economic stability while supporting growth. Bank Governor Andrew Bailey emphasized the need for caution to prevent inflation from resurging.

Despite persistent price pressures in the services sector, UK inflation has recently met the Bank's 2% target. This rate cut follows a year of unchanged rates after a series of hikes aimed at curbing inflation, which had been driven by pandemic-related supply chain disruptions and the Ukraine conflict. These higher rates, while effective in controlling inflation, have also weighed on the British economy, which has shown limited growth since its post-pandemic rebound.

SOURCE: BANK OF ENGLAND

Critics argue that maintaining elevated rates for too long could stifle economic growth, echoing concerns directed at the US Federal Reserve. However, the Bank's updated projections anticipate a temporary rise in CPI inflation to around 2.75% in the second half of the year, due to the fading impact of last year's energy price declines, with domestic inflationary pressures expected to persist.

The Bank's Monetary Policy Committee (MPC) has focused on medium-term and forward-looking assessments to sustain its 2% inflation target. The Committee's framework distinguishes between first and second-round effects, monitoring persistent inflationary pressures closely. With private sector earnings growth and services consumer price inflation both showing signs of easing, the Committee expects a margin of slack to emerge as GDP falls below potential and the labor market loosens.

Despite some progress, risks of enduring inflationary pressures from second-round effects remain. Factors such as a stronger-than-expected demand path and structural shifts in the economy could affect domestic wage and price-setting dynamics more persistently. Thus, while the degree of monetary policy restrictiveness has been slightly reduced, the MPC emphasizes the need for continued vigilance.

The global context also plays a role, as central banks worldwide have been cautious in reducing rates. The European Central Bank, for instance, has started cutting rates but remains cautious. The Bank of England's decision marks a crucial turning point, balancing the need for economic support with the risk of inflation persistence.

As the global economy adjusts to post-pandemic realities, the Bank of England's measured approach aims to ensure long-term economic stability and growth. The Committee will continue to monitor economic indicators closely, adjusting the monetary policy stance as needed to achieve the inflation target sustainably.