Bank of England to keep interest rates on hold this week

Rate setters will not vote for an interest rate hike this month as inflation has fallen back from its peak and signs of overseas economic stress add to the reasons to keep rates low, say economists.

The news two weeks ago that one member of the Monetary Policy Committee had voted for a hike took the market by surprise and boosted the pound.

It looks clear that Andrew Sentance will repeat his push for hikes again this month. He told Reuters last week that interest rates need to increase gradually even though the government is planning massive spending cuts.

Inflation above target

He is worried by inflation which has overshot the Bank of England's targets and forecasts for most of the last two years.

In May, consumer price inflation fell to 3.4%, down from 3.7% the previous month, but still uncomfortably above the Bank of England’s target rate of 2%.

The retail price inflation (RPI) index, which includes broader housing costs and is used by many to calculate wage and benefit increases, stood at 5.3% in May - only marginally down from its 19 year high of 5.3% in April

Fears over economy

The latest minutes from the Bank of England do show that there is growing unease about persistently above target inflation, but James Knightly, economist at ING, points out: 'Other MPC voters are far less concerned about the inflation threat with BoE Governor Mervyn King continuing to argue the case for policy accommodation.'

Knightly said the government cutbacks means there are going to be severe headwinds to GDP growth, especially with public sector employment falls likely to significantly offset any private sector gains.

Howard Archer, economist at IHS Global Insight, agrees Sentance will remain a lone voice calling for rate increases.

'I frankly don’t think anyone will join Sentance. I guess if anyone did Spencer Dale may be one of more likely to,' he said.

Like Knightly, Archer believes the data will be a bit softer over the coming weeks and points out growing fears of a global dip will also affect the rate-setters views of the risks. 

He said recent comments by Adam Posen, Paul Fisher and David Mills suggest they're not in any hurry to lift rates. Bank of England Governor Mervyn King – who has the deciding vote until newly appointed member Martin Weale joins in August – also seems happy to remain in the wait and see camp, particularly since he's been in favour of the further fiscal tightening.