The government is facing calls to launch a new emergency financial support program for households after the Bank of England warned the UK economy could plunge into recession before the end of the year.
As the nation headed to the polls in local elections, the Bank raised interest rates from 0.75% to 1% to combat spiraling inflation worsened by Russia’s war in Ukraine. With another rise in home energy bills expected in October, he expects inflation to top 10% this year, the highest level since 1982.
Rising rates are taking borrowing costs to levels not seen since the recession caused by the 2008 financial crisis, but the Bank’s Monetary Policy Committee (MPC) has said action is warranted despite the clouds economic storms that were gathering.
Andrew Bailey, the Bank’s governor, said there was a “narrow path” the central bank had to navigate between the twin risks of inflation and recession facing the UK economy. He said the inflationary shock had been compounded by the impact on supply chains from China’s Covid shutdowns and rising energy costs since Vladimir Putin’s invasion.
“I recognize the hardship this will cause for many people in the UK, particularly those on the lowest incomes, often with little or no savings, who are hardest hit by the rising prices of necessities like food and energy,” Bailey said.
The pound fell sharply after the rate decision as the City reacted to Britain’s weaker economic outlook. The pound fell nearly 3 cents against the dollar in the foreign exchange markets and more than a cent against the euro.
As the Tories face a tough night in the polls, Labor and opposition parties have called on the government to radically rethink its support measures for struggling families as the cost of living crisis deepens further.
Rachel Reeves, the shadow chancellor, said the government was out of ideas and out of touch. “Not only are ministers shrugging off the spiraling cost of living crisis, they have made it worse by hitting workers and businesses with 15 Tory tax hikes that will further stifle our economic growth.”
Calls grew on Thursday for the government to launch a windfall tax on oil and gas companies to fund measures to help struggling families, after energy giant Shell reported a record quarterly profit of 9 billion (£7.3 billion). It came after BP posted its highest quarterly profit in more than a decade on Tuesday.
“With a windfall tax on oil and gas producers’ profits, we can cut household bills by up to £600 and support businesses through the storm in the cost of living,” said Reeves.
In a pessimistic assessment, the Bank said British households would likely face the second biggest strain on their incomes since records began in 1964. Amid a spike in global gas prices after Putin’s invasion, it forecasts energy bills to rise 40% in October on top of last month’s record 54% increase.
Economists at the Resolution Foundation said the Bank’s projections showed the average household in Britain would lose around £1,200 this year due to the cost of living squeeze, paving the way for a period of longer growth. weak ahead as families rein in spending.
The MPC said inflation is likely to peak above 10% after Ofgem’s energy price cap increase expected in October, in a development that will drag down gross domestic product (GDP) in the fourth quarter.
Although a modest recovery is expected early next year, ensuring that two consecutive quarters of falling GDP (the technical definition of a recession) are likely to be averted, the Bank warned that the UK economy will contract by 0.25% during 2023 as a whole makes it a slow-burning recession. “It’s very obviously a sharp downturn in activity,” Bailey said.
Predicting a gloomy economic backdrop ahead of the next general election, the Bank said the decline in living standards and weaker growth would cause unemployment to rise sharply to 5.5%, surpassing the jobless rate at the start of the pandemic. of Covid.
However, the MPC believed that the risks of high inflation becoming a lingering feature of the UK economy warranted immediate action. With the inflation rate expected to hit five times the Bank’s official 2% target, three MPC members – Jonathan Haskel, Michael Saunders and Catherine Mann – voted for a bigger increase of half a percentage point. percentage of borrowing costs in a 6-3 split on the pricing committee.
The US Federal Reserve on Wednesday raised interest rates by 0.5 percentage points, the biggest increase since the turn of the millennium, in a bid to combat soaring prices.
Financial markets had expected the Bank to raise interest rates to 2.5% next year. Basing its economic forecast on that judgement, the Bank said inflation would likely return to close to its target rate within two years and fall to just 1.3% within three years.
With the economy faltering, analysts said this indicated the Bank was unlikely to raise rates further, while two MPC members noted in its meeting minutes that such moves were not “not appropriate” given the economic risks.
The committee also decided to refrain from actively selling its £875 billion portfolio of UK government bonds built up through its quantitative easing program launched during the 2008 financial crisis. he rise in interest rates to 1% would open the door to divestments. The MPC said it had asked a Bank team to draw up plans for a disposal program and would provide an update in August.
A Treasury spokesman said it recognized the Bank’s forecast would be worrying for many people and that it was providing £22billion in family support this year to help with the cost of living . “The UK is not alone in facing these challenges and although we cannot fully protect everyone, we are taking action to ease pressures on households and boost growth,” they said.