City expects base rate to stay on hold until 2004

The Bank of England is expected to keep interest rates on hold at 3.5 per cent when its Monetary Policy Committee meets this week. City economists believe they will stay at this 48-year low until the end of the year.

All 45 economists polled by Reuters believe the announcement on Thursday at the end of the two-day meeting will be a freeze.

'The data have been ambiguous enough over the last month to mean that all nine members will probably vote for no change again,' said Jonathan Loynes of Capital Economics.

MPC member Paul Tucker said last Thursday that the outlook for monetary policy was 'finely balanced'.

Developments in the world economy are likely to take centre stage.

Michael Hume, UK economist at Lehman Brothers, said: 'On the external side, there has been better-than-expected activity data from the US and Japan. However, this will probably be more than offset in the minds of MPC members by the weak second-quarter GDP data from the euro area.'

At home, high street sales boomed in July but the 'Bank will likely play this down given the uncertainty around the weather distortions', Hume said.

Contrary to the MPC's assumption in their August Inflation Report projections, there has been no upward revision to second quarter GDP growth at 0.3 per cent.

House prices also renewed their fast growth. The Nationwide index posted a 1.1 per cent increase in August, and mortgage approvals are rising. But personal debt too is surging, prompting concern from Bank Governor Mervyn King, his deputy Rachel Lomax and Paul Tucker. They fear that households are not planning for higher borrowing costs ahead.

Some mortgage costs are already rising as money market rates climb in the expectation of even higher future rates. The markets are discounting rates at 4.75 per cent by the end of 2004, more than 1 per cent above the level assumed two months ago.

'Market interest rate expec tations have diverged from economic reality. Accordingly, unless the economic outlook changes dramatically, it seems reasonable to expect a decent portion of the rise in rate expectations eventually to be reversed,' said Capital's Loynes.

Lehman Brothers says rates may be on hold for almost a year while the global economy finds its feet.

'We judge that the MPC will keep rates on hold for the rest of 2003. We have pencilled in the first 0.25 per cent hike at the August 2004 Inflation Report meeting,' said Hume.