A Precautionary Rate Rise?

The Bank of England raised interest rates by 0.25% yesterday, to 4.75%, restoring rates to what they were in July 2005. They weren't alone. The ECB raised by 0.25% to 3% for the euro-zone, the Reserve Bank of Australia raised by 0.25% to 6% the day before, the US Federal Reserve raised by 0.25% to 5.25% in July and smaller banks as far apart as South Africa and South Korea also raised rates. And most momentous of all, Japan finally ended six years of zero interest rates last month by raising to 0.25%.

Central banks around the world are worried about rising oil and gas costs, and are determined to stamp on the trend.

The Band of England of course had started raising rates much earlier than every one else (in Dec 2003), and therefore the latest rate rise caught the City by surprise as they hadn't anticipated anything till October at the earliest. Everyone should have been paying attention to Ed Balls, who sharp as ever, was cautioning about the need to be "vigilent" about inflation in mid July, a strong signal that interest rate rises were in the pipeline.

Why did the Bank move now? It's probably a precautionary move, on the grounds that a 0.25% rise now will forstall a 0.5% rise later. I personally think what tipped them was the sign that last month for the first time retailers felt able to pass on price rises to the consumer, plus the housing market is showing signs of resuming it's previous strong growth. This is a warning shot across their bows.

I think the central banks of the world are right to raise rates in concert. Much of the rise in oil and gas prices are down to speculation by global hedge funds who move from one country to another looking for cheap finance for their trades (note that oil has increased from $25 per barrel in 2003 to about £75 now - a 200% increase in three years while global growth has increased by a total of just 20% during those three years, which means that something other than demand, which is growth-related, is influencing the price) . Speculation becomes far more difficult for the hedge funds if the entire planet takes away the access to cheap finance.