The Bank of England has cut interest rates by a quarter point to 4.25%, but it has also halved its forecast for economic growth this year.
The Bank of England has cut interest rates by a quarter point to 4.25%. It’s the third time it has cut rates since last summer and says the move is possible because it thinks inflationary pressures in the economy are continuing to ease.
But the Bank has halved its forecast for economic growth this year. And it thinks energy prices mean inflation is about to jump back up – though it hopes that will be a temporary problem.
The Bank’s core mission is to keep inflation around the government’s target of 2%. It went way above that in the middle of 2022 thanks to two problems: the war in Ukraine driving up energy and food prices, and the aftermath of the Covid pandemic, which disrupted supply chains around the world.
Inflation in the UK hit a 40-year high – around 11% – but then it slowly came down again, sinking to 1.7% last autumn. But that now appears to be the trough. The annual rate has edged up to 2.5% in December.
Today the Bank said it will go higher over the summer, reaching 3.7%. It blames rising energy prices on international markets for most of that increase. Higher water bills and bus fares contribute as well.
So households will be facing a renewed squeeze on their living standards. And the squeeze will come once again on their energy bills, which people are very sensitive to as it is something most of us are very aware of when it arrives every month or every quarter.
Normally, you wouldn’t associate inflation rising so far from the 2% target with the Bank cutting interest rates. But it is making the calculation that the new peak is caused by temporary factors rather than a change in the underlying amount of inflationary pressure in the economy.
Energy prices have spiked up because winter in Europe has been colder than expected. And the gas market remains tight as Russian supplies were reduced after the invasion of Ukraine. The Bank knows raising interest rates in the UK isn’t going to make any difference to these pressures.
It believes that inflationary pressures inside the UK economy are still easing, so that gives the freedom to cut rates despite the jump in inflation. That belief is certainly helpful for the wider economy, as the Bank today warned that growth has pretty much ground to a halt.
It thinks the UK just manages to avoid a recession, with output shrinking by a tenth of a percent in the last three months of 2024. But it should then grow – also by a tenth of a percent – in the first quarter of this year. So no recession – but by almost the smallest margin possible.
The Bank now sees the economy growing by just 0.75% across the whole of 2025. Back in November, its forecast was double that: growth of 1.5%. To give you a sense of how disappointing that 0.75% figure is, the average annual growth rate in the decade before Covid was 2%.
None of these forecasts include any allowance for the effect of any tariffs that President Trump may impose on UK exports (we export about £60bn of goods to the US in 2023). The Bank says there’s no point trying to build tariffs into its model when nothing has been announced – it would need to know what level the tariffs were levied and how many of our exports were covered.
That doesn’t mean that the tariffs issue isn’t critical. The Bank says tariffs on the UK are likely to lower economic activity, hitting investment by creating more uncertainty for companies.
And the Governor of the Bank, Andrew Bailey (pictured here), made clear to my colleague Cathy Newman that tariffs could hurt the UK even if they aren’t imposed directly on us. The Bank thinks that any extensive trade war could lead to a fragmentation of the world economy, cutting trade which it believes has spread innovation and encouraged productivity growth.
