If recession hits the UK, a base rate rise is the last thing we need

This week’s decision on interest rates will be fraught, but many think Britain is heading the same way as the US

When Bank of England officials meet this week to consider how much to raise the central bank’s base rate by, they could be forgiven for having spent the previous day scratching their heads.

There are figures that show the UK economy is – like an 18th-century depiction of John Bull after a feast of pies – straining at full capacity. In normal times, low unemployment and a record number of vacancies would indicate a boom in full swing.

These, however, are not normal times. A majority of businesses report slowing consumer demand as wages fail to keep pace with soaring inflation. Rather than a vision of plenty, the latest surveys depict a slowing economy heading for recession.

Governor Andrew Bailey and his eight colleagues on the monetary policy committee (MPC) are expected to increase the base rate from 1.25% to 1.5%, pushing the average mortgage borrowing APR to 3.5% or more. But such is the confusion about how to deal with an inflationary spiral that has taken annual price rises to 9.4% that the vote is expected to be split.

Samuel Tombs, chief UK economist at Pantheon Macroeconomics, says most MPC members will be reluctant to impose a big rate rise: “It’s a close call, but on balance we think the committee will stick to its slow-and-steady approach.”

Luke Bartholomew of fund manager Abrdn is betting on a more aggressive stance, however. He says increased government spending and rising gas bills will force the Bank to raise rates by 0.5 points.

Some committee members voted for a half-point increase at the last meeting in June, arguing that a short, sharp shock was needed to calm consumer spending.

Catherine Mann, the MPC member and former investment bank economist, added an extra twist in her most recent speech, saying that the UK needed much higher interest rates to protect the pound, which had fallen against the dollar by more than 10% since the beginning of the year. A lower pound pushes up the cost of imports and the rate of inflation.

Her argument is likely to be made again at this week’s meeting after the US Federal Reserve signalled that a 0.75-point increase in the base rate last week to 2.5% is likely to be followed by another 0.75-point rise in the autumn.

Higher interest rates act as a magnet for global savings, increasing the demand for the currency. If UK interest rates lag behind those in the US, sterling is at a distinct disadvantage.

Fed officials’ threats of ever-higher interest rates may never come to pass. US GDP figures last week showed the economy shrinking in the second quarter by 0.9% after a 1.6% contraction in the first quarter, pushing the US into recession.

Plenty of economists believe the UK is heading in the same direction. They say unemployment in the UK is low because there was an exodus of workers in the wake of the Brexit vote, and because long Covid is still affecting about 500,000 workers.

Chris Williamson, chief business economist at S&P Global Market Intelligence, compiles one of the most keenly watched monthly business surveys. He says the economy doesn’t need an extra push into recession from the Bank. All the indicators he sees show it is heading in that direction anyway.

“If the central bank raises rates, it is going to have a recession, and quite a deep one,” he says. “Maybe a deep recession is what the Bank wants. I just think it shouldn’t be surprised if that happens.”

John Bull was depicted two and a half centuries ago as a wealthy farmer, and there are plenty who have made money from high wheat prices over the past two years. But recessions can send commodity prices plummeting. Wheat prices are already down a quarter from their peak in May, in response to recession concerns.

A recession across the developed world will see them fall further, bringing down inflation and ending any further need for interest rate rises.

Contributor

Phillip Inman

The GuardianTramp

Related Content

Article image
An interest rate rise in Omicron times? It could just happen
Despite new restrictions, some experts say rising inflation and vacancies are good reason for the Bank of England to take a lead this week

Phillip Inman

12, Dec, 2021 @12:00 AM

Article image
Bank of England set to spoil the festive mood with another interest rate rise
The Bank is likely to raise borrowing costs again this week – but how much longer can they keep going up?

Phillip Inman

11, Dec, 2022 @12:05 AM

Article image
We’ve avoided recession for now, but the outlook is one of perma-gloom
December’s GDP was boosted by us all cranking up the heating. Actual economic growth has not looked so weak in decades

Phillip Inman

05, Feb, 2023 @12:05 AM

Article image
Biggest interest rate rise for 25 years could spell showdown at the Bank
This week’s decision could pit governor Andrew Bailey against an expansionary PM and chancellor

Richard Partington Economics correspondent

17, Sep, 2022 @11:05 PM

Article image
Will the Bank of England steal Christmas by putting up interest rates?
Higher borrowing costs will hit hard-pressed families, but the City is betting on an interest rise this week

Richard Partington Economics correspondent

30, Oct, 2021 @11:05 PM

Article image
MPC’s rates dilemma: protect the recovery or tackle inflation?
Soaring prices will have some at the Bank itching to put up interest rates, but others will stress that now is a very bad time

Richard Partington

18, Sep, 2021 @11:05 PM

Article image
Bank of England: pay figures will fuel raging interest rate debate
It’s been a decade since the Bank last raised borrowing costs but if wages go up and the pound rallies, a hike could be on the agenda

Shane Hickey

09, Jul, 2017 @11:02 PM

Article image
We’ve a dire lack of workers, and putting a load of them on the dole won’t help
The real reason for last week’s rate rise was to boost unemployment and keep a lid on wage demands. But the government could instead increase the supply of labour

Phillip Inman

05, Nov, 2022 @5:00 PM

Article image
We partied for June’s jubilee, but a winter recession won’t be an easy ride
Data on jobs, prices and sales this week will add to the gloom, but might an inflation-led return to work take the edge off?

Phillip Inman

13, Aug, 2022 @11:05 PM

Article image
Another interest rate looms, but Britain doesn’t need this one either
Vacancies are falling, pressure on pay seems to be reducing, tax rises are looming. This economy is unlikely to overheat

Phillip Inman

15, Jan, 2022 @5:00 PM