BOE Keeps Rate at 5% as Economy Slumps, Prices Rise

By Brian Swint and Jennifer Ryan

Aug. 7 (Bloomberg) -- The Bank of England kept the main interest rate unchanged for a fourth month after inflation accelerated and the economy teetered on the brink of a recession.

The Monetary Policy Committee, led by Governor Mervyn King, left the bank rate unchanged at 5 percent today, the central bank said in London. The decision was predicted by all 60 economists in a Bloomberg News survey.

U.K. services, manufacturing and construction shrank in July and house prices dropped the most in a quarter-century, while King predicts inflation will soon quicken to more than double the 2 percent target. Policy makers split three ways last month on which direction interest rates should move, and they may have disagreed again in today's decision.

``They're in a terrible position,'' Paul Mortimer-Lee, head of market economics at BNP Paribas SA in London, said in an interview on Bloomberg Television. ``They're torn between a disastrous growth outlook and a disastrous inflation outlook. In that case, they're doing nothing.''

The pound stayed close to a seven-week low against the euro after the Bank of England's decision, trading at 79.22 pence per euro as of 12:48 p.m. in London.

The bank, which cut the benchmark rate three times since December, will publish new forecasts on Aug. 13 and will release minutes of today's meeting, showing how each of the nine policy makers voted, a week later.

G-7 Rates

The U.K.'s main rate is the highest in the Group of Seven countries. The U.S. Federal Reserve this week kept the benchmark at 2 percent. The European Central Bank raised its rate to 4.25 percent last month and kept it at that level today, as predicted by all 60 economists in a Bloomberg survey. The Czech central bank cut its benchmark rate by a quarter-point to 3.5 percent today.

With the British central bank standing pat, Prime Minister Gordon Brown may try to shore up the economy with tax changes to benefit consumers. Brown's popularity has plunged after 13 months in office, with his ruling Labour Party attracting 24 percent support in a BPIX Ltd. poll between July 31 and Aug. 2, compared with 47 percent for the Conservative opposition.

Nationwide Building Society's index of consumer confidence dropped by the most in four years, and HBOS Plc said today that house prices fell an annual 8.8 percent, the biggest drop since it started measuring the property market in 1983.

Barclays Plc, the U.K.'s third-biggest bank, said today that first-half profit fell 34 percent as securities trading declined and credit writedowns increased. Global losses and writedowns at financial institutions from the U.S. subprime-mortgage market collapse now total more than $493 billion.

IMF Forecasts

The International Monetary Fund yesterday slashed its forecast for British economic growth to 1.4 percent in 2008 from the 1.8 percent it predicted in May, and to 1.1 percent in 2009, down from 1.7 percent.

The Washington-based lender also predicted that inflation may accelerate to almost 5 percent, from 3.8 percent in June, which was the fastest pace since at least 1997. King predicted on July 14 that it will exceed 3 percent ``until well into next year.''

Record oil prices and rising utility bills have fanned inflation. Centrica Plc, Britain's biggest energy supplier, and Electricite de France SA's U.K. unit announced price increases of as much as 35 percent in the last month. While crude oil costs have dropped 18 percent since the record high on July 11, they are still up 66 percent from a year ago.

Inflation Risk

``Cutting rates to soften the landing doesn't make sense when inflation is so high,'' said Peter Dixon, an economist at Commerzbank AG in London. ``The peak in inflation may be above 4 percent, and what will be interesting is how quickly they predict it will fall back to 2 percent.''

Last month, policy maker Timothy Besley favored a rate increase, arguing that faster inflation risks eroding the bank's credibility. David Blanchflower supported a reduction, saying that the economy is likely ``to contract sharply in the near term, possibly for several quarters.'' The majority voted for no change.

The central bank's decision today defied calls from unions and companies for a rate cut. Adam Lent, head of economics and social affairs at the Trades Union Congress, which represents 7 million workers, said in a statement that the bank ``must prioritize economic growth now rather than waiting until the economy has stalled.''

``It's a particularly uncomfortable decision'' for policy makers, Investec's Shaw said. ``You'd love to be a fly on the wall.''

To contact the reporters on this story: Brian Swint in London at bswint@bloomberg.net; Jennifer Ryan in London at Jryan13@bloomberg.net.