A rate cut was as likely as a Tory victory

If Labour's election victory tomorrow is the most predictable event of the week, today's decision by the Bank of England to leave interest rates on hold at 5.25% runs it a pretty close second. Even the calls from groups lobbying on behalf of Britain?s struggling manufacturing sector lacked their normal bite; few expected the nine-strong monetary policy committee (MPC) to move on the eve of polling day.

In reality, it was probably economics rather than politics that stayed the Bank's hand. The data since last month's cut has been distinctly mixed, reinforcing the sense that Britain has a two-speed economy; a booming consumer sector and a depressed productive sector.

Shops and stores are reporting good business, house prices are going up steadily, falling unemployment and enhanced job security are encouraging consumers to borrow and spend. On the other hand, the renewed weakness of the euro against sterling is making life even more difficult for exporters, who are being priced out of foreign markets.

All this makes the MPC's task an extremely tricky one. A high pound makes imports cheaper, helping to keep inflation below the government's 2.5% target. That means lower interest rates, which further stoke up spending while doing nothing to reduce the level of the pound.

The skewed nature of the economy is starting to show up in the trade figures, traditionally a good early warning sign of trouble ahead. With consumer spending likely to be boosted by the three cuts in interest rates this year and the cut-price deals on offer to mortgage holders, the chances are that the balance of payments will get worse before it gets better.

There are also signs that inflation, although weak by historic standards, is starting to edge up as retailers respond to strong demand by pushing up prices. Had it not been for Gordon Brown's generosity to smokers, drinkers and drivers in the Budget, inflation would have been almost bang on its target last month rather than 2.0%.

So, while it would have been a demonstration of the Bank's independence if they had cut rates today, the case for a move was not especially strong. Indeed, events of the past month suggest that borrowing costs may not have much further to fall. They also suggest that the government may have got the election out of the way just in time.

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16.05.2001: Greenspan acts. It's 4%


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