Markets welcome rise in base rates to 7%

The financial markets were surprised, but pleased by the Bank of England's decision to raise interest rates by a quarter point to 7 per cent yesterday. Industry, though, condemned the move, and a new round of mortgage rate increases is likely to hit home-buyers.

It was not so much the increase, which was widely expected, as the strong hint in the statement from the Monetary Policy Committee that rates have gone far enough for now that pleased the City.

It took the pound four pfennigs lower against the German mark to below DM2.97. Sterling's index against a range of currencies fell by1.1 points to 102.8.

Share prices soared for the second day running, with the FTSE 100 index closing nearly 61 points higher at 5,086.8. The index has gained 642 points, or 14 per cent, since 1 May.

The Bank's statement yesterday said the appreciation of the pound during the past year had put "severe pressure on businesses exposed to international competition". It added: "Upward pressures on the exchange rate should be reduced by the perception that interest rates have reached a level consistent with the inflation target."

"They didn't mince their words. Rates will not rise again for the time being," said Adam Cole at James Capel.

Some analysts said further increases in the cost of borrowing would occur, but not until the Bank had clear new evidence the economy was expanding at an unsustainable pace. "You can not conclude interest rates have reached their peak, but there will be a pause," said Kevin Darlington at ABN-Amro.

Simon Briscoe at Nikko Europe said yesterday's move was unnecessary, but he added: "It will do little damage to the economy. What is important is that rates are now on hold."

However, in contrast to the acclaim from the City, the reaction from industry and unions was far more negative.

Kate Barker, chief economist at the CBI, said the employers' organisation was concerned that the latest rise would exacerbate the problems faced by exporters. But she said: "I am pleased the Bank has signalled there will be no further move."

The British Chambers of Commerce also welcomed this signal, but described yesterday's decision as a "body blow" to business.

Ian Peters, deputy director-general, said: "The Bank should assess the combined effects of lower import prices, falling wage inflation, the Chancellor's Budget measures and previous rises in interest rates, before making any further increases."

Meanwhile, the Engineering Employers' Federation warned of the risk of job cuts as a result of the strong pound. A spokesman said: "We feel there is an increased likelihood of job losses being announced throughout the autumn period."

The Construction Confederation warned the latest increase ran the risk of damaging the construction recovery. "The whole industry will be affected if the economic recovery is weakened too much," said Ian Deslandes, its chief executive.

Interest rates have now risen by 1 per cent to 7 per cent since the general election. Three of these moves have been made by the Bank of England under the new arrangements which give it control over interest rate decisions.

The Bank said yesterday that the latest increase was "necessary to put the economy on track for achieving the inflation target of 2.5 per cent looking two years ahead". Although it recognised the "severe pressure" the strong pound was placing on exporters, it said the prospects for growth in domestic demand made the quarter point increase necessary.

A new survey of business on the high street by the CBI revealed a slight slowdown in the growth of retail sales last month.

Although the monthly survey has not matched official figures for retail sales very closely in recent months, a small fall in the balance of retailers reporting higher sales volumes reassured economists that consumer demand has probably not accelerated again. The CBI said underlying sales growth was strong and stable.

Cheltenham & Gloucester was the first mortgage lender to increase its loan rate, with an announcement following swiftly on the Bank of England's statement yesterday. Others said they would consider their position, but many are expected to follow suit. However, C&G simultaneously announced an increase in rates for savers. The carpetbagging habit has made deposits extremely footloose, and competition in the savings market is stiff.

Britannia Building Society yesterday announced an increase in its rates for savers from Monday but kept mortgage rates unchanged.

Halifax said it did not intend to make any immediate announcement but would review the situation. Lenders also took a day or two to react to the interest rate increase in July.

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