British interest rates have been raised for what is, in effect, the first time in 11 years.
Bank Rate, the national benchmark, was lifted to 0.75% from a previous rate of 0.5%.
Mark Carney, Governor of the Bank of England, said; "Rates can be expected to rise gradually. Policy needs to walk, not run, to stand still.”
A key tool of economic management
A strengthening economy emboldened the Bank’s Monetary Policy Committee (MPC), the body that sets interest rates, to make what had been a widely-expected move yesterday.
Rates were slashed to 0.5% in March 2009 in the teeth of the financial crisis and Great Recession. This was an all-time low in the Bank’s 324-year history.
Although Mr Carney thus has, technically, raised rates during his time in office so far, this latest hike is generally regarded as his first “real” one.
For many people, interest rates are discussed principally in terms of mortgage costs and the rates charged on personal loans. But they are a key tool of economic management, one of the most powerful available to any government.
How do they work?
Higher rates usually sign of economic health
A good starting point would be to look at the MPC’s rationale for the move after the 2 August meeting. “Recent data appears to confirm that the dip in output in the first quarter was temporary,” it said, “with momentum recovering in the second quarter. The labour market has continued to tighten and unit labour cost growth has firmed.”
Higher rates work the opposite way, encouraging saving, discouraging debt and keeping a lid on inflation. They also tend to send the national currency higher, as overseas buyers seek the higher returns now available.
This makes imported goods cheaper, which may be some consolation to those whose spending power is now curbed by the higher rates.
The currency is the hinge connecting Britain with the world economy, so when UK factories and service industries are operating at full stretch during a boom, a rise in rates, pushes up the currency, and takes some of the pressure off British businesses by transferring some British consumer demand abroad.
Of course, the reverse is true when policymakers want to bring demand home again, through a weaker currency.
Thus, the Bank’s interest-rate decisions are transmitted to the wider economy.