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Bank of England hikes rates and warns of risk of drawn-out recession

Governor of the Bank of England Andrew Bailey during a press conference for the release of the Monetary Policy Report, at the Bank of England, London. Photo by Toby Melville/PA

By August Graham and Anna Wise, PA Business Reporters

Homeowners face the biggest single shock on their mortgage bills in over three decades as the UK heads into what could prove the longest recession in at least a century.

The Bank of England’s base rate will rise to 3% from 2.25%, its highest for 14 years after eight consecutive hikes with more on the horizon.

It will push up mortgage payments by around £73 per month for typical households, according to data from trade body UK Finance.

It brings the total of recent hikes to more than £3,000 a year.

This will also hit households whose mortgages are up for renewal next year.

In a caveated forecast, the Bank also warned that the UK could be on course for the longest recession since reliable records began in the 1920s.

The UK’s gross domestic product (GDP) could shrink for every quarter for two years, with growth only coming back in the middle of 2024.

The economy has faced similarly long recessions in the past, but then the quarterly drops have been broken up with an occasional positive quarter.

But in a confusing forecast, the Bank simultaneously appeared to warn of an eight-quarter recession, while on the other hand saying it would probably not come to pass.

Its forecast was based on the base interest rate reaching as high as 5.2%, which is what the market expected.

But, in reality, the Bank said it does not expect rates to go nearly that high.

Regardless a UK recession is likely, although it may not be quite as long. And even if the two-year recession comes, it will be less than half as severe as the 2008 financial crisis, the Bank said.

From its highest to lowest point, GDP is expected to drop 2.9%, the Bank said, compared with 6.3% during the financial crisis.

Bank governor Andrew Bailey warned “the road ahead will be a tough one”.

He acknowledged that eight rate rises since last December are “big changes and they have a real impact on people’s lives”.

But he said: “If we do not act forcefully now, it would be worse later on.”

However, he added: “We think Bank rate will have to go up by less than is currently priced in by financial markets.”

This means that “the rates on new fixed-term mortgages should not need to rise as they have done”, according to the central bank boss.

Chancellor Jeremy Hunt said the Government would focus on tackling the UK’s battered public finances to help limit the need for further big rate rises but admitted there are “no easy options”.

He said: “The most important thing the British Government can do right now is to restore stability, sort out our public finances, and get debt falling so that interest rate rises are kept as low as possible.”

“However, there are no easy options and we will need to take difficult decisions on tax and spending to get there.”

The latest decision pushes interest rates to their highest since early December 2008 and will heap extra pressures on households.

It is the biggest single increase to the UK base rate since 1989 when the measure was still decided by the government.

Decision makers also said that more hikes were likely to come, however they do not expect rates to rise as high as the 5.2% that the market has forecast for the final quarter of next year.

“The majority of the committee judges that, should the economy evolve broadly in line with the latest Monetary Policy Report projections, further increases in the Bank Rate may be required for a sustainable return of inflation to target, albeit to a peak lower than prices into financial markets,” the Bank said on Thursday.

It also warned there are uncertainties and said that if inflation looks to be more persistent than the current outlook it will “respond forcefully”.

The pound fell after the Bank of England’s warnings over a prolonged recession.

Sterling dropped 2% to 1.12 against the US dollar and was 0.7% lower at 1.15 euros.

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