By Brian Swint
July 23 (Bloomberg) -- Bank of England policy makers split three ways in the decision to keep interest rates unchanged this month, as Timothy Besley cast the first vote for an increase in a year and David Blanchflower favored a reduction.
Governor Mervyn King and six other members of the Monetary Policy Committee kept the benchmark rate at 5 percent, minutes of the July 10 decision showed today. Besley argued that the fastest inflation in a decade put the bank's credibility at risk, while Blanchflower said the economy was likely to ``contract sharply in the near term, possibly for several quarters.''
The split highlights the dilemma facing Bank of England officials as they weigh the risk of a recession against the danger that inflation will get out of control. Reports today showed that mortgage approvals plunged by two thirds in June as the U.K.'s housing slump worsened, while a gauge of factory prices jumped to the highest in more than 18 years this month.
``For all members of the committee, the decision was a difficult one,'' the Bank of England said in the minutes. ``But all members agreed that, relative to the'' forecasts published in May, ``the path of inflation in the near term would be higher and the slowdown in activity more pronounced.''
The pound rose 0.3 percent against the dollar after the release of the minutes, and traded at $1.9973 as of 11:41 a.m. in London. Against the euro, it climbed 0.4 percent to 78.78 pence.
Rate `Threat'
``This has reminded the market that the MPC has not gone soft on inflation,'' Alan Clarke, an economist at BNP Paribas SA in London, said in an interview on Bloomberg Television. ``The threat of a hike will remain for months to come.''
The divide among policy makers was the first such split on the direction of rates since May 2006. While the panel also split three ways in April this year, the debate focused more on the size of the rate cut than the direction of the move. Blanchflower favored a half-point reduction and six members argued for a quarter-point move. Andrew Sentance and Besley wanted no change.
The last vote for an increase was in July 2007, when a majority of the committee raised the rate to 5.75 percent. The bank has cut the rate three times since December.
This was Chief Economist Spencer Dale's first vote on the committee since he took up his post this month. Rachel Lomax left the panel at the end of June after she finished her term as deputy governor.
Inflation Jump
Inflation accelerated to 3.8 percent in June, the fastest pace in 11 years. The rate has exceeded the bank's target for nine months. A U.K. index of factory price expectations rose to 34 in July from 28 in June, the highest since January 1990, the Confederation of British Industry said today.
U.K. unemployment jumped the most in June since the aftermath of the last recession in 1992 as the economic slowdown forced homebuilders and banks to cut jobs. Banks are curbing lending following the collapse of the U.S. subprime mortgage market, which so far has cost financial institutions worldwide $467 billion in losses and writedowns.
``Keeping bank rate at 5 percent when the economy was slowing was arguably already signaling a strong signal of the MPC's commitment to reducing inflation,'' the minutes showed. ``A rate change this month would be a surprise at a time when credit and other financial markets remained fragile.''
Those in favor of no change in interest rates this month said that an increase now may ``impart at downward momentum on the economy that risked significant undershoot of inflation in the medium term,'' the minutes showed.
Policy makers suggested that, if needed, a change in interest rates would be more appropriate next month when they update their quarterly forecasts.
``Any change in rates would be better communicated alongside the bank's August inflation report,'' the minutes showed.
Policy Argument
Besley argued that the bank should raise its rate by a quarter-point ``to keep medium-term inflation expectations anchored and ensure the committee's credibility,'' the minutes showed. Blanchflower wanted a cut by the same amount ``to avoid inflation undershooting the target in the medium term.''
Economic growth will slow to a 1 percent annual pace in the first quarter of 2009, the weakest since 1992, the Bank of England predicted on May 14. King said then that there may be ``an odd quarter or two of negative growth.''
U.K. mortgage approvals dropped 67 percent in June from a year earlier to the lowest since at least 1997 after the housing market worsened and deterred potential buyers, a report by the British Bankers' Association showed today. HBOS Plc, the U.K.'s biggest mortgage lender, said this month that house prices, which tripled in the past decade, dropped in June from a year earlier by the most since 1992.
``The housing market downturn had gathered momentum,'' the minutes showed today. ``House prices had already fallen by around 8 percent since their peak.''
The next interest rate decision is on Aug. 7 and the bank will publish new economic forecasts on Aug. 13.
To contact the reporter on this story: Brian Swint in London at bswint@bloomberg.net.
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