UK economy grows faster than expected, boosting chance of interest rate hike

But economists said that growth remained lacklustre thanks to Brexit-related uncertainty and poor productivity

Ben Chapman
Thursday 26 October 2017 09:32 BST
Manufacturing helped to boost the headline GDP figure after improving from a weak second quarter
Manufacturing helped to boost the headline GDP figure after improving from a weak second quarter (PA)

The UK economy grew faster than expected during the last quarter, increasing the likelihood that the Bank of England will raise interest rates next week. But economists said that growth is still lacklustre thanks to Brexit-related uncertainty and poor productivity.

Any potential rate hike by the Bank’s Monetary Policy Committee when it meets on 2 November is likely to be just 0.25 per cent, but would nonetheless have an impact on mortgage payments and savings.

The pound soared against the euro and the dollar on Wednesday after official figures revealed that the economy grew 0.4 per cent between July and September – a shade higher than the previous quarter and the predictions of City analysts.

The services sector, which accounts for the majority of the UK economy “continued to drive GDP growth”, the Office for National Statistics said on Wednesday.

Manufacturing also boosted the headline GDP figure after improving from a weak second quarter.

But the UK is still languishing well below the 0.6 per cent registered by the eurozone in the second quarter. The country is now on track for its worst annual growth performance since the depths of the recession after growing just 0.9 per cent in the first nine months of the year, its slowest rate for the January to September period since 2009.

The figures will heighten fears that stalling Brexit talks, rising inflation and falling real wages are dragging on the economy.

The productivity puzzle remains, with GDP per person lagging behind the headline growth rate at 0.3 per cent. Responding to the figures, Chancellor Philip Hammond said boosting productivity would be the focus of his budget next month.

Labour Shadow Chancellor John McDonnell said the figures demonstrated “the impact that seven wasted years of Tory economic policy has had on working households”.

He added: “The UK is not growing as fast as many of our trading partners in the EU or the USA, and it is becoming increasingly clear that this Government has to use next month’s Budget for a change of direction.

“The Chancellor cannot keep hiding from the facts, as his approach of carrying on as usual is seriously putting working people’s living standards at risk.”

Despite tepid growth, the better-than-expected GDP figure increases the likelihood that the Bank of England’s Monetary Policy Committee will raise interest rates when it meets next week.

That caused the pound to jump almost 1 per cent against the dollar to $1.326, while it was 0.6 per cent up versus the euro at €1.123.

Despite Wednesday’s gains, sterling is still trading well down on its value before last year’s Brexit vote, when £1 would have bought $1.50 or €1.31.

The weakened pound has driven up the cost of imports which has translated into higher shop prices, helping inflation rise to a five-and-a-half-year high of 3 per cent last month. BoE Governor Mark Carney warned last week that prices likely had further to rise.

A rate rise by the BoE would act to curb inflation.

Ben Brettell, senior economist at Hargreaves Lansdown said the latest GDP numbers meant a rise in the benchmark rate to 0.5 per cent was a “near-certainty”.

However, he said such a move would be “largely symbolic” as it merely reverses the quarter-per-cent cut that the MPC made last year.

A rise would quickly hit those on tracker mortgages, which follow at a fixed margin above or below the BoE base rate.

A person on a tracker mortgage that has a 25-year £250,000 repayment tracker mortgage and who is paying 2 per cent interest could see their monthly £1,100 repayment rise by around £30 if BoE interest rates – which are currently at 0.25 per cent – rise to 0.5 per cent.

For those seeking a personal loan, the average interest rate on borrowing £5,000 has dropped from 9.3 per cent at the time of the EU referendum to 8 per cent. That trend would likely reverse if the BoE increases in the base rate back to its previous level.

A rate hike would be the first by the central bank since before the financial crisis began a decade ago, although the Bank has been careful to stress that it does not expect rates to rapidly return to their pre-crisis levels. Raising rates too fast would risk choking off economic growth by dampening demand in the economy.

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