Bank fires warning shot on debt

The Bank of England yesterday told Britain's consumers to rein in their borrowing as it raised interest rates to prevent the overheating housing market from setting off an inflationary spiral.

In a move that triggered an immediate increase in mortgage rates from a number of leading lenders, the Bank said a quarter-point rise to 4% in its base rate was needed to keep the economy on track.

City analysts said the scale of further rises would depend on how consumers responded to the warning shot. Dealers in the money markets believe four more quarter-point rises will be needed before borrowers get the message, with the next rise predicted in May.

The spending binge over Christmas left the Bank convinced that its quarter-point rise last November had had virtually no impact on consumer behaviour. "In the UK, output growth in the second half of last year was above trend and business surveys point to a further pick up in the first quarter", the Bank's nine-strong monetary policy committee (MPC) said in a statement. "Household spending and borrowing have been resilient and the housing market remains strong."

Its announcement resulted in the Nationwide, Abbey, Barclays, Woolwich, Sainsbury's Bank and First Direct all putting up their standard variable mortgage rate by a quarter point. The move will cost a mortgage payer with an £80,000 loan an extra £12 a month, with other lenders expected to follow suit today.

Although the Bank's decision had been widely predicted, it received a mixed reception from industry and unions.

The British Chambers of Commerce said the move was "premature", warning that it would "hit the recovery on the head before it gains momentum". The TUC's chief economist, Ian Brinkley, said: "The Bank could have afforded to wait until it had confirmation that the expected recovery in manufacturing is actually happening. There are no signs of inflation taking off."

But Digby Jones, director-general of the CBI, said: "Firms realise the need for interest rates to go up as well as down if the country's eco nomic stability is to be maintained." Mr Jones added that an early rise might prevent the need for bigger rises later.

The Bank said a pre-emptive strike was needed to prevent inflation from rising above the government's 2% target. Inflation as measured by the consumer prices index now stands at 1.3%, but the MPC said that inflationary prices were likely to "pick up gradually over the next couple of years". A detailed study of the economy from the Bank next week will show that inflation would breach the 2% ceiling in two years' time unless rates rise.

Some City analysts doubted whether inflationary pressure was as strong as the Bank feared. "CPI inflation has exceeded 2% in just two months over the last seven years," said Philip Shaw, economist at Investec. "And even then its peak was 2.1%."

Vince Cable, the Liberal Democrat shadow chancellor, said: "The Bank is desperate for a soft landing in the housing market and a reduction in personal borrowing without crushing manufacturing."