UK interest rates: High cost of overdoing it: Ian McConnell

What is without doubt is that rates have been raised very sharply indeed already, having been at a record low of 0.1% as recently as December 2021.

Also plain is that the setting of interest rates, which for so long was non-contentious, has become very controversial.

This is no surprise. The Old Lady of Threadneedle Street has independence in setting rates, with Gordon Brown moving to take the politics out of the process and setting up the MPC after becoming Labour chancellor in 1997.

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The problem now, however, is that, while the arrangements remain the same, the Conservative Government, which has been hapless in the extreme on economic matters, has been making a very loud noise about bringing down inflation. Prime Minister Rishi Sunak and his Cabinet also appear to be champing at the bit to claim credit for this happening even though all they have done is fuel inflation - whether that be through the consequences of their hard Brexit or their abject failure to keep a lid on energy prices.

All the while, it is difficult to escape the notion that the full effects of the slew of rises in interest rates already implemented have not been seen yet.

However, of 65 economists polled by Reuters between September 11 and 13, nearly all are forecasting a further quarter-point rise tomorrow, with only one projecting no move. The median forecast is that this will prove to be the peak, with rates remaining at 5.5% until mid-2024. This is in line with what financial markets are pricing in, looking at interest rate futures. However, 30 of the 65 respondents predict a peak in rates of 5.75% or higher next quarter.

The squeeze on millions of households and many businesses from the surge in UK base rates is obvious. And surely few would have conceived of rates rising so high this cycle when the tightening process started.

Former MPC member Danny Blanchflower has been vociferous about the rate rises.

In June, Mr Blanchflower flagged his belief that there was a very considerable probability on the Bank of England’s own forecasts that there would be deflation, and declared: “How can you raise rates with a forecast that says you should be cutting rates? They are out of their minds.”

The Bank’s projections in its August monetary policy report are that the UK will grow by just 0.5% both this year and in 2024, and by 0.25% in 2025. These are, by historical standards, extremely weak rates of expansion.

Back in June, at an event hosted by Glasgow Chamber of Commerce, Mr Blanchflower showed the chart of the Bank’s forecast for UK gross domestic product growth published in May. He declared this chart, based on market interest rate expectations, showed on the central projection that the UK economy would “not grow at all” between now and 2026.

Referring to the MPC, Mr Blanchflower said: “Zero growth. That is your job – to get the economy growing.”

Ms Mann appears to take a quite different view.

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In a speech to the Canadian Association for Business Economics last week, she said: “Inevitably, and unfortunately, the inflation forecast and therefore the monetary policy maker likely will make a mistake; after all, we don’t have a perfect crystal ball! Ex-post, either policy will tighten too much, in that the activity costs of monetary tightening are larger than warranted to achieve a deceleration in inflation to target, or policy will be inappropriately loose, such that inflation will remain above target for an even longer period, risking expectations becoming unanchored.”

It is indeed easy to be wise after the event.

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However, it was what Ms Mann went on to say that took us into more controversial territory.

She declared: “Which mistake would I rather make and do the data and analysis help me in that judgment? At issue in the current conjuncture, and speaking just for myself, the risk of tightening too little is more salient. I make this judgment for the UK based on a variety of information. For instance data on inflation in core and services persisting at over 6% for over a year by now.”

And that was not the end of it.

Ms Mann added: “In my view, holding rates constant at the current level risks enabling further inflation persistence which will have to be unwound eventually with a worse trade-off. If we underestimate the rise in the persistent component of inflation and set policy consistent with a world that may no longer exist, we will ourselves contribute to the persistent overshoot of the target. And the longer this overshoot is allowed to continue, the more likely a departure from the old ‘low inflation, low volatility’ steady state.

“It’s a risky bet that inflation expectations are sufficiently well-anchored and to wait for core inflation to ease down, as this extends the duration way above the target-consistent rate. We need to prepare for a world where inflation is more likely to be volatile in the future, and the neutral nominal rate is likely to be higher than in the past.”

Taking issue with a “3% inflation is close enough [view] popular in some circles”, she declared this could not be the MPC’s guide.

She added: “We need to communicate and act on our commitment to do what is necessary to achieve the 2% target, sooner rather than later.”

Annual UK consumer prices index inflation had by July fallen to 6.8%, from a 41-year high of 11.1% last October.

This has been an entirely predictable fall. Yes, we have had the slew of rises in interest rates but base-year effects were always going to mean a sharp drop in inflation, and you would imagine this inevitability was a factor in the economically challenged Tories’ decision to nail their colours to the mast about halving inflation from 10%-plus levels.

To be fair to Ms Mann, she does emphasise she is speaking for herself.

There are clearly a range of views on whether it is better to overdo or undercook things when it comes to raising interest rates.

However, the inflation expectations focus always seems a bit esoteric, to say the least.

Far easier to understand is that the surge in interest rates already seen has taken a huge toll on households and many businesses. It will not matter much what people’s inflation expectations are if they have no money to spend anyway on discretionary items. And people have no choice but to pay whatever essentials cost, which is sadly much more than it used to be.

The cost of doing too much on interest rates is clear. It means lost growth, which results in unnecessary unemployment. That is surely the situation from which to steer away.

That said, Mr Sunak and Chancellor Jeremy Hunt, given what they have been saying on the interest rate and inflation front, seem not to care about such a cost.