Has the Bank of England lost control of inflation?

The Bank of England’s Monetary Policy Committee this month voted 5-4 against raising the base interest rate from 5.5% to 5.75%. But it's not the closeness of the vote that investors should really worry about.

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Oops, they did it again.

The Bank of England's Monetary Policy Committee this month voted 5-4 against raising the base interest rate from 5.5% to 5.75%. The result was tighter than the City had expected, and makes a rise next month almost inevitable.

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But the most interesting point was that for only the second time in the Bank's history, the governor Mervyn King was on the losing side of the vote. The last time that happened was in August 2005, when the MPC voted to cut rates by a quarter point, arguably the biggest mistake it's ever made.

So is the MPC likely to regret going against the boss this time too?

With inflationary pressures building and interest rates firmly on the upward path anyway, Mervyn King and three of his colleagues on the Monetary Policy Committee argued that there was "no compelling reason to wait" before raising interest rates again earlier this month.

However, the other five disagreed, reasoning that, as The Telegraph puts it, "it still wasn't clear how much consumers were hurting from the four jumps in borrowing costs since August."

Bluntly speaking, these five have got it entirely wrong. Much as the MPC may not like the idea of becoming unpopular with the rest of us, the impact on consumers is not the thing they have to worry about. No one likes to have their spending restricted - that's the main reason that most of us work for a living, to get more money so that we can keep improving our standard of living . If you wanted to keep everyone happy in the short term (the very short term, that is), you could just dole out 0% credit cards and limitless interest-free overdrafts to anyone who asked for one.

The trouble with that approach of course, is that if you give everyone free money, then eventually prices end up rising.

And that's already what's happening. Inflationary pressures have picked up, fuelled by the ease with which people can borrow. What needs to be done now, is to get inflation back in the bag. The way to do that is to stamp on it hard - you need to get ahead of the curve, as MoneyWeek regular James Ferguson always says. And as James also points out, the Bank is far from being ahead of the curve at the moment - in the past when inflation has been at these levels, interest rates have been a good one to two percentage points higher.

Mr King and the others who voted with him recognise this, arguing that "by raising now, the peak in interest rates could eventually be lower. It was not clear that a rate rise would be much of a surprise." In other words, a stitch in time saves nine.

Unfortunately, the majority of the rate-setting committee are still adopting the baby steps, wait and see approach. It's interesting how central bankers are perfectly willing to slash rates in the wake of an unexpected economic shock likely to impact on growth (witness the reaction to Septermber 11th), but when it comes to hiking rates in the face of an overheating economy, they're far more reluctant to take bold action.

The trouble is, that to rein in a credit binge, you have to cause a bit of pain. If you do it early enough, people will grizzle and complain, but won't really suffer too much. If you leave it really late, as the Bank has already done, then some people will lose their homes and their jobs, and they might be burning your effigy in the street by the time you're through.

So it's no surprise that some on the MPC are reluctant to grab the nettle. After all, if everyone loses their jobs and homes as a result of rampant inflation taking off, MPC members can always shake their heads and blame the oil price, or Chinese workers demanding higher wages, or global warming driving up food costs. The end result will of course be much worse, but at least the MPC can pretend it was nothing to do with them and the vast majority of people wont know any better.

But for all our sakes, let's hope they've got the guts to take control, put up with the brickbats, and pay attention to the governor's arguments next time.

Turning to the wider markets

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London's blue-chip stocks gave up early gains to end yesterday marginally in the red. The FTSE 100 a fraction of a point lower at 6,649 and the broader indices were also down. Vedanta REsources led miners higher following upwardly-revised estimates from Goldman Sachs in its latest mining review. For a full market report, see: London market close.

On the Continent, the Paris CAC-40 added 21 points to end the day at 6,093, whilst the DAX-30 was 56 points higher at 8,046 in Frankfurt.

Across the Atlantic, US stocks closed in the red as rising bond yields offset the effect of falling oil prices. The Dow Jones slumped 146 points to a close of 13,489. The tech-heavy Nasdaq was 26 points lower, at 22,599. And the S&P 500 was 20 points lower, at 1,512.

In Asia, the Nikkei hit a seven-year closing high today after a strong session for tech stocks: the index added 28 points to end the day at 18,240.

Crude oil was trading at $68.91 a barrel this morning whilst Brent spot was at $71.45.

Having fallen over $10 to as low as $650.50 in New York yesterday, spot gold had risen to $655.10 this morning. Silver, meanwhile, had fallen to $13.20.

Turning to currencies, the pound was at 1.9922 against the dollar this morning and 1.4884 against the euro, and the dollar was at 0.7469 against the euro and 123.69 against the Japanese yen.

And in London this morning, Dominic Murphy of buyout firm Kohlberg Kravis Roberts denied that he and his peers benefited from tax breaks. (See Private equity bosses pay less tax than cleaners.) In his first public defence of the industry, Murphy told a Parliamentary committee 'there are no tax loopholes... we are law-abiding companies.'

And our two recommended articles for today...

Will an Iran embargo send oil over $100

- Iran has been threatening to counter America's grumbles about its nuclear weapons by cutting oil supplies. Opec representative Hossein Kazempour Ardebili has warned that such action could push the price of crude above the $100 mark. Find out why Garry White thinks you should take these threats with a pinch of salt by reading: Will an Iran embargo send oil over $100?

Is China set to offload its Treasuries?

- What will happen if China were to dump its entire Treasury portfolio in one fell swoop? Such fears are not unfounded, says Mike Shedlock, but is there a strong enough case for complete sell-off? To find out what the commentators are saying - and why the Fed looks to lose out either way - click here: Is China set to offload its Treasuries?

John Stepek

John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.