Bank of England cuts interest rate for first time in four years, but it was the closest call

The Bank of England cut interest rates Thursday for the first time since the start of the pandemic, providing some relief to households squeezed by the highest borrowing costs in 16 years.

The decision takes the benchmark interest rate in the United Kingdom to 5% from 5.25%, where it had stood since September following the longest-running series of successive rate hikes in at least a century.

The knife-edge decision saw five members of the Bank of England’s monetary policy committee vote to reduce the rate, while four wanted to keep it on hold.

Bank of England governor Andrew Bailey told reporters the decision to cut rates was “finely balanced,” suggesting that the bank will proceed cautiously.

“We need to put the period of high inflation firmly behind us and we need to be careful not to cut rates too much or too quickly,” he said, noting that a recent strengthening in the UK economy could add upward pressure to inflation.

UK inflation slowed to 2% in May and remained at that level in June, falling to the Bank of England’s target for the first time in nearly three years as food prices eased sharply.

“We have truly come a long way in returning inflation to target,” Bailey said Thursday. The BoE expects inflation to edge up in the coming months as the effects of a sharp drop in household energy prices fades, before falling below the 2% target in two years’ time.

The decision to cut comes a day after the US Federal Reserve opted to hold rates steady. But Fed Chair Jerome Powell told reporters that a rate cut “could be on the table in the September meeting.”

While the Bank of England had enough confidence over the outlook for consumer prices to move sooner, the close decision reflects concern among some BoE policymakers that inflation hasn’t yet been completely brought under control. Inflation in the dominant services sector, at 5.7%, has proved sticky and remains a point of concern for policymakers.

“Monetary policy will need to continue to remain restrictive for sufficiently long until the risks to inflation returning sustainably to the 2% target in the medium term have dissipated further,” the Bank of England said.

“Future decisions (on rate cuts) are likely to be equally close,” said Peter Arnold, EY UK chief economist. He expects the next quarter-point cut to come in November, rather than at the BoE’s next meeting, in September.

Consultancy Capital Economics shares that view. “And the risks to our forecast are tilted towards cuts being a bit slower and smaller than we currently expect,” deputy chief UK economist Ruth Gregory wrote in a note.

Despite uncertainty over how soon further reductions to borrowing costs will come, the Bank of England’s first cut since March 2020 could give a big boost to sentiment in the housing market as mortgage costs fall.

Major lender Nationwide unveiled a sub-4% fixed-rate mortgage last week, with others likely to follow.

“Now there has been a cut, demand and transaction activity will increase when the autumn market gets underway in September and more mortgage rates fall below the 4% psychological threshold,” said Tom Bill, head of UK residential research at Knight Frank. The real estate consultancy sees UK house prices rising by 3% this year.

Stronger-than-expected economic growth could further improve the outlook for housing market activity.

After a short and shallow recession at the end of last year, gross domestic product grew 0.6% in the first three months of the year compared with the previous quarter, according to the Office for National Statistics.

More recent data following the Labour Party’s landslide victory in the UK general election showed a strengthening of business confidence in July, as new business activity in the manufacturing and services sectors grew at its fastest pace in 15 months.