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Last Updated: Thursday, 10 June, 2004, 11:48 GMT 12:48 UK
Why have rates gone up again?
Martin Ellis, Head of Group Economics at HBOS
By Martin Ellis
Chief Economist, Halifax

Interest rates have gone up for the second consecutive month. The chief economist at the Halifax bank, the UK's biggest mortgage lender, explains why the Bank of England's rate-setting committee has acted once again.

Shoppers on the High Street
Shoppers are still spending freely

The Bank of England's move today highlights a desire on its part to move back to more neutral monetary policy settings.

It was the third base rate increase this year and was the first time the bank has raised rates at consecutive monthly meetings since early 2000.

It brings the base rate back to levels not seen since September 2001.

Robust performance

Looking at the reasons behind the move, the domestic economic backdrop is still favourable and there are clearer signs of broadly-based economic growth.

The labour market is firm. Consumer spending growth has been above average and housing data remains robust. Business surveys have generally been positive.

Investment is trending higher and the latest data points to a tentative turn in manufacturing activity.

We see the potential for the base rate to head towards 5%

Looking overseas, international economic conditions have firmed but more so in the US and Asia than in mainland Europe.

Even though the latest inflation data showed a relatively tame 1.2% annual rate on the government's targeted measure, price pressures seem likely to build modestly over the coming months.

In fact, the May Inflation Report from the Bank of England pointed to the prospect of CPI inflation being slightly above the Bank's 2% target on a two-year time horizon, which highlights the Bank's motives for moving to slightly higher rates.

Future hikes

We anticipate a further moderate rise in official rates over the second half of the year and see the potential for the base rate to head towards 5%.

However, this is still a relatively benign rate environment and at those levels, bank base rates would still be comfortably below the average for the past 30 years.

There are key factors, which point to any further tightenings being quite modest.

The high level of sterling (which will help to dampen inflation by reducing import prices), the ongoing fragility of the manufacturing sector and the low current level of inflation should prevent a more aggressive tightening of monetary policy.

The recent hike in oil prices could also restrain the pace at which the MPC raises rates by dampening the prospects for economic growth provided that there are no signs that the rise in oil prices is causing earnings growth to accelerate.


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