As countries seek to return to normality following the socioeconomic impact of the COVID-19 pandemic, the Bank of England has recently increased its interest rate to the pre-pandemic level.
In a recent tweet, the Bank announced that “The Monetary Policy Committee voted by a majority of 8-1” to raise the interest rate to 0.75%. This begs several questions: what are the causes for this sudden increase in interest rates? And what will be the effects and implications of this decision?
In recent months, the UK has experienced worrisome levels of inflation. As reported by The Guardian: “Business and consumer groups said the sharp rise in inflation would harm living standards and push more firms towards insolvency, while Labour and unions said the government was failing to tackle the UK’s worsening cost of living crisis.” The situation has led several economists to predict that by April the inflation rate would increase from the current 5.4% figure to 8%.
Crisis in Ukraine
The factors that led to this decision were many, one of them being the current crisis in Ukraine. The Bank of England claimed that recent events in the region will lead to a further increase in the cost of several commodities, including energy and food prices. It added that although the English economy had already been experiencing very large shocks (which already led to an increase in inflation), “Russia’s invasion of Ukraine was another such shock”. As a result, the Bank of England had to “rethink” its peak inflation forecast this year, prompting them to take action to tackle this issue.
Impact of BREXIT
Another early factor that set the stage for the current high inflation was BREXIT. It is estimated that BREXIT had raised consumer prices by 2.9% and increased the cost of living per household by £870 yearly. This resulted in a knock-on effect, whereby the weakening of the British Pound reduced real wages for workers throughout the country, the effects of which resonate to this day.
Europe’s Energy Crisis
Furthermore, following a steep increase in energy prices throughout Europe since September, in an event which the media has referred to as the “European Energy Crisis”, the UK was one of the European countries which was impacted the most. Since the beginning of March, there has been a reported increase of 142% in gas prices in the UK, lower than the figure reported for the EU at 144%, but exponentially higher than the one reported in the US at 37.3%. This was due to a number of factors, such as the reduction of supply volumes of gas from Russia to the EU.
Members of the Monetary Policy Committee further justified the decision by pointing out that the current tightness in the labor market, ever increasing price pressure, and the risk of these factors lingering on, back the latest decision. BBC Economic Editor Faisal Islam said that The Bank of England is “nervous about the economic impact of the massive rise in energy and food prices.” This is because, as he claimed, The Bank of England has witnessed 30 years of high inflation, and are scared about the potential of the inflation rate being higher than the predicted 8%. On the other hand, Personal Finance Analyst at Hargreaves Lansdown, Sarah Coles, claimed that prices were already set to increase since April, when the energy price cap was increased.
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