Bank of England cuts interest rates to near three-year low
The Bank of England has delivered a pre-Christmas rate cut, reducing its central interest rate to 3.75 per cent amid a deteriorating labour market and signs price rises will continue to slow into the new year.
In a close 5-4 vote that was decided by Andrew Bailey, the Monetary Policy Committee (MPC) chose to reduce Bank Rate by 25 basis points to its lowest level in nearly three years. The Governor argued that the UK’s climbing unemployment and softer than expected growth pointed towards an accumulation of slack in the economy, which outweighed persistent but reducing inflationary pressures.
The decision marks the first cut to interest rate since August, after rate-setters narrowly voted to hold the Bank’s central rate at two consecutive meetings in September and November.
Since then, the economy has undershot expectations, with unemployment jumping above five per cent between October and November, while redundancies hit their highest level since February.
“We’ve passed the recent peak in inflation and it has continued to fall, so we have cut rates for the sixth time, to 3.75 per cent, today,” Bailey said. “We still think rates are on a gradual path downward. But with every cut we make, how much further we go becomes a closer call.”
MPC members said falling oil and gas prices, as well as the glut of measures announced at the Chancellor’s Autumn Budget, all pointed toward a softer inflation outlook for the start of 2026. Rachel Reeves chose to reduce regulatory costs levied on household energy bills and extended the freeze on fuel duty last month which, combined with falling commodity prices, led officials to reduce their outlook for inflation by 0.5 per cent.
Bank staff now expect the speed of price rises to hit rate-setters’ two per cent target by as soon as the second quarter of next year. The administered price changes announced by Reeves, and the introduction of several demand-sucking taxes should lead to a drop-off in price rises when the majority of them come into force in April, officials said.
Bank of England: Inflationary pressures persist
In November, Bailey sided with the MPC’s hawkish contingent, which as well as including arch hawks Catherine Mann and Megan Greene, also featured deputy governor Clare Lombardelli and chief economist Huw Pill. Bailey and Lombardelli voiced concerns about there being more underlying inflationary pressure than was reflected in the Bank’s central projections.
The governor was the only rate-setter to switch positions from last month’s vote, with Pill, Lombardelli and Greene opting to keep Bank Rate at four per cent alongside external member Catherine Mann. The four officials cited fears that recent disinflation will slow into the new year, and consistently remain above target with a cut.
Forward-looking indicators like the Bank’s regular poll of finance bosses and households also point towards a stickier inflation outlook, the MPC’s hawkish contingent said. At its most recent Decision Maker Panel last month, bosses told officials they expected their wage bill to rise by 3.8 per cent over the next year and that they would hike prices by 3.7 per cent; nearly double the Bank’s target. Households also expect prices to rise by an average of 3.5 per cent, which can spark so-called second round effects like more demand for pay rises.
This month, Bailey joined four other rate-setters, who cited weak activity and household spending as supporting the case for more easing.