UK Economy

Rates go up to 3% as expected as the Bank forecast a 2-year recession

Today the Bank of England took the decision, as was widely expected, to raise interest rates by 0.75% to 3%. This represents the biggest rise in rates since Black Wednesday, when the UK Government withdrew Sterling from the European Exchange Rate Mechanism.

This is the Bank’s eighth successive rate rise – it’s hard to believe that we started 2022 with rates at 0.25%. Market expectations are now that the interest rate will peak at 5.25% in Q3 2023.

Alongside the rates decision, the Bank’s Monetary Policy Committee also released their latest forecasts for the UK economy. Their last forecasts were released in August – and since then, it is no understatement to say we’ve been on a bit of a political and economic rollercoaster. There have been 2 new Prime Ministers… 2 new Chancellors… lots of fiscal announcements and u-turns… and also, of course, the announcement of the Energy Price Guarantee.

The forecasts do not paint a great picture of the economy. The Bank is now forecasting that the economy will contract for two years in total, from Q3 2022 to Q2 2024, with growth only returning in Q3 2024. Over the two-year period, the Bank is predicting that the economy will reduce in size by 2.4% in total.

When the economy does return to growth, it looks pretty sluggish by historical standards. For 2025, the Bank are predicting that growth will be only 0.7%.

The pathway for inflation has obviously been impacted by the UK Government’s Energy Price Guarantee, and the Bank is now predicting it will peak at 11% in Q4 of 2022, instead of the previously assumed 13%.

Interestingly, the Bank are currently assuming that the replacement for the Energy Price Guarantee after March will be an intervention which will impact on measured inflation. If the support is not a cap on prices like the EPG and the government support takes the form of income support to vulnerable households, this assumption is unlikely to hold. While gas prices have come down a bit recently, the most recent predictions of the price cap from April still represent significant rises on the current level.

There is also clear uncertainty that the Bank continues to flag about the overall economic and fiscal situation. They have not (of course) taken account of any announcements that the UK Government may make in two weeks time, and flag this as a potential issue with their current forecast.

The Autumn Statement may include more clarity on the nature of the energy intervention after March, but also will include more information on the likely pathway for Government spending – which could also impact significantly on household incomes.


Picture of Mairi Spowage, director of the Fraser of Allander Institute

Mairi is the Director of the Fraser of Allander Institute. Previously, she was the Deputy Chief Executive of the Scottish Fiscal Commission and the Head of National Accounts at the Scottish Government and has over a decade of experience working in different areas of statistics and analysis.