Bank expected to raise base rate amid signs of a stronger economy

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The Independent Online

The Bank of England is this week expected to raise interest rates for the second time in two months in an attempt to bring about a gentle slowdown in house prices and consumer spending. Economists believe the Bank's Monetary Policy Committee will decide by a narrow margin to raise rates from 4.25 per cent to 4.5 per cent when they meet on Thursday.

This would be a decisive break from the interest rate environment of the past few years, in which most changes to the cost of borrowing have been downwards. The MPC has not increased rates for two consecutive months since January and February 2000.

The Bank's decision comes as fresh data showing growing buoyancy in the economy is being published, suggesting interest rates could be increased without damaging the health of British businesses.

The Confederation of British Industry said many parts of the services sector are benefiting from an upturn in demand. Employment agencies and business travel services have become particularly busy, with demand rising in the last quarter at its fastest rate for three years, the survey, published today with the accountancy firm Grant Thornton, said.

The Engineering Employers Federation, which represents manufacturers, also revealed in its quarterly survey that output, orders and investment are rising strongly.

Martin Temple, the director general of the EEF, said at the weekend that companies would rather face a smaller "stitch in time" increase in rates now rather than a potentially much larger rise in a few months' time to cool sections of the economy.

Strong figures on mortgage lending, retail sales and house prices have added to the picture that the consumer-led part of the economy is still growing at a pace that many commentators believe is unsustainable.

According to Nationwide Building Society, house price growth this year is nearly 20 per cent. This has not deterred buyers, with mortgage borrowing standing at a record £9.8bn in April - 15 per cent up on a year ago. However, there are signs that not all sections of the economy are robust. The increase in oil prices in recent weeks has hit manufacturers, especially the airline industry.

The CBI's study shows that while businesses are experiencing an upturn in volumes, costs are also going up and yet companies are struggling to raise prices due to competition.

Some observers believe the MPC may also want to hold off from adding a quarter of a percentage point, or even half-point, to the cost of borrowing this week to have longer to assess the impact of its initial rate rise in May. John Butler, an economist at HSBC, said: "We still believe the MPC will want to see the impact of May's rate decision on the economy and the consumer in particular."

The accountant BDO Stoy Hayward said there was significant pressure on the MPC to hold off on a rate rise due to the general uncertainty in the economy. The firm said an issue the MPC might want to address was whether inflation might become a problem, especially if Opec's decision to increase oil production did not do enough to bring prices under control.