Bank of England policymakers keep rates on hold but more back hike
Bank of England Interest Rate Decision and Economic Implications
By David Milliken, William Schomberg and Yoruk Bahceli
Monetary Policy Committee Vote and Immediate Market Reaction
LONDON, July 30 (Reuters) - The Bank of England kept interest rates on hold as expected on Thursday, but a third policymaker backed a rate hike due to renewed conflict between the United States and Iran.
The Monetary Policy Committee voted 6-3 to keep rates at 3.75%, the central bank said on Thursday, rather than the 7-2 split most economists polled by Reuters had expected.
Catherine Mann — who expressed reservations about the stance of policy earlier this month — joined Megan Greene and Chief Economist Huw Pill in voting for a rise to 4%.
The rest of the MPC appeared in no rush to raise rates, however, sticking with the wait-and-see approach of Governor Andrew Bailey which he hopes will ensure inflation does not overshoot its 2% target by too much this year.
"Holding Bank Rate is appropriate as global conditions look to be more uncertain and inflationary, while domestic conditions are on balance more benign as regards the prospects for inflation," Bailey said.
Sterling softened slightly against the dollar after the BoE's announcement, while 2-year gilt yields, which are sensitive to the outlook for official borrowing costs, fell by about 2 basis points after the decision.
"For now, the Bank is not seeing enough to abandon its wait-and-see approach. Despite the sharp rise in energy prices, the majority appear unconvinced this will translate into more persistent domestic inflation," said George Brown, senior economist at Schroders.
Government Response and Inflation Forecast
New UK Government Seeks to Lower Cost of Living
NEW UK GOVERNMENT SEEKS TO LOWER COST OF LIVING
If Britain's central bank continues to keep rates on hold, it will be a relief for new Prime Minister Andy Burnham who has prioritised cost-of-living measures, including scrapping a tax on household electricity bills which the BoE said would help lower inflation by a tenth of a percentage point.
Bank of England's Inflation Outlook
The BoE's new central forecast - which assumes energy prices move broadly as markets expect and that spillovers from high energy costs into pay and price-setting are limited - showed inflation rising to 3.2% later this year from a 15-month low of 2.6% in June and staying above target until early 2028 when it would dip below 2%.
This is a softer inflation outlook than in the BoE's last full quarterly forecasts in April, but similar to what it predicted in June.
However, this scenario is based on financial market expectations that the BoE will raise rates in the final quarter of 2026 and again in 2027, in contrast to the expectation among most economists polled by Reuters that the central bank will be able to avoid further tightening.
Comparison with Other Central Banks
While the European Central Bank raised interest rates in June, Bailey has said the BoE can afford to keep rates on hold as it had cut rates by less before the outbreak of the U.S.-Iran conflict at the end of February closed the Strait of Hormuz to most oil exports.
The U.S. Federal Reserve kept interest rates unchanged on Wednesday but three members of the Federal Open Market Committee said they would have preferred a quarter-point rise. Chair Kevin Warsh said he had "no tolerance" for inflation.
Policymaker Perspectives and Market Impact
Widening Middle East Conflict Caused Mann to Vote for Hike
WIDENING MIDDLE EAST CONFLICT CAUSED MANN TO VOTE FOR HIKE
The BoE's Mann cited a breakdown of a tentative truce between the United States and Iran and a broadening of the conflict this month as the main trigger for her change of view.
"This 'sporadic continuance' of the conflict that I hypothesised last month appears to be the state of play," she said.
Inflation Risks and Labour Market Conditions
Although British inflation is, unusually, below rates in the euro zone and the United States, that largely reflects how regulated household energy bills in Britain lag behind market prices.
For the MPC members who backed a rate hike, the fact that inflation has been above the BoE's 2% target for almost all of the past five years increases the chance of damaging second-round effects.
Others saw no evidence that these risks were materialising and focused more on a weaker labour market, where private-sector pay is now growing at the slowest pace since 2020.
However, Deputy Governor Clare Lombardelli said the absence of second-round effects so far was "informative but not conclusive".
Quantitative Tightening and Future Outlook
Market Impact of Bond Sales
Separately, the BoE raised its estimate of the market impact from the reduction on its balance sheet of hundreds of billions of pounds worth of government bonds, judging it had added a "modest" 0.2-0.3 percentage points to gilt yields since 2022, up from 0.15-0.25 percentage points in a similar assessment last year.
Future of Quantitative Tightening Programme
This assessment comes ahead of an annual vote by the MPC in September on the pace of the quantitative tightening programme. In 2025, the BoE slowed the pace at which it reduces its bond holdings to £70 billion ($93 billion) a year from £100 billion. Financial market participants polled by the BoE see a further slowdown by the MPC in September to £50 billion.
(Reporting by David Milliken, William Schomberg and Yoruk Bahceli, Editing by Catherine Evans)
