The Bank of England kept its key interest rate unchanged Thursday, holding steady at a time when the Federal Reserve and European Central Bank have raised rates, though it left open the possibility of future rises as energy prices continue to drive inflation.
The key point
The BOE kept its policy rate at 3.75%. While energy prices have pushed inflation higher, most policymakers saw few signs so far that higher energy costs are spilling over into everyday prices. The recent pickup in bond yields is further restraining economic activity.
However, rate setters signaled that they would respond if the pickup in inflation threatened to become long-lasting.
"So far higher global energy costs have had a limited effect on price and wage setting in the U.K. But the longer this volatility persists, the bigger the impact it will have on inflation, and the more likely it is we will need to raise bank rate," said Gov. Andrew Bailey.
There remains dissent among the bank's monetary-policy committee about the need to act. Three of the nine rate-setters voted for a hike to 4%.
The central bank also said it would change the way it reduces its holdings of government bonds at a time when gilt yields have risen to multidecade highs, including pausing auctions of those bonds until next year.
The context
The Federal Reserve raised interest rates for the first time in three years on Wednesday, with its chairman Kevin Warsh noting that U.S. inflation had been too high for too long. The ECB last week raised its key rate for the second time in 2026.
Inflation in the U.K. rose again in August to 3.1%, further above from the BOE's 2% target, mostly driven by rising prices at the pump and household energy costs. In July, the BOE said it expected inflation to average 3.2% in the final quarter of the year.
Crude oil rose above $110 a barrel this week and European natural-gas prices are around their highest level since 2023 amid renewed supply concerns stemming from conflict in the Middle East.
Even with the continued split among their ranks, rate setters took a more hawkish tone at the meeting. "The magnitude and persistence of the inflationary impulse stemming from events in the Middle East have proved stronger than expected in July," said Huw Pill, who voted to raise the key rate.
Bailey said geopolitics had made upside risks more prominent, amid a seeming loss of urgency to find solutions to the conflict.
However, there is little evidence that the increase in energy costs has bled into second-round effects such as through wages. Indeed, average weekly earnings slowed in the three months to July, and payrolls fell, official data showed.
Quantitative tightening
The BOE said it would change the way it reduces its holding of U.K. government bonds. It said it would unwind its remaining stock of bonds at an annual average pace of 46 billion pounds, equivalent to $61.5 billion, by the end of 2034.
However, the bank also it would pause auctions of its bonds until April while it reviews a model of selling them to the government.
The decision comes as yields on U.K. government bonds, known as gilts, like those of other government bonds globally, have climbed as investors worry about bulging debt loads and inflation. The benchmark 10-year gilt yield was at its highest since 2008 this week.
The reduction will come through a combination of letting bonds mature and GBP20 billion in annual sales. Neither the Fed nor the ECB have used sales to shrink their bondholdings, and critics of the BOE's approach say it adds to higher borrowing costs at a time when the government is hard-pressed to contain its debts.
Comments