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Interest rates set to remain in a deadlock

MONETARY policy should remain on hold this month to provide some certainty to the markets and to give the Bank of England time to fully assess the political situation, a majority of City A.M.’s Shadow MPC say ahead of the Monetary Policy Committee decision that is due at midday today.

Only Henderson’s Simon Ward thinks that interest rates should rise by 0.25 per cent this month to dampen inflationary pressures and underline the Bank’s inflation-fighting commitment.

However, both Citigroup’s Michael Saunders and Jamie Dannhauser at Lombard Street Research reckon the Bank may have to tighten gradually if sterling continues to fall and the economic recovery gathers pace.

At the other end of the spectrum, both Vicky Redwood at Capital Economics and Lloyds TSB’s Trevor Williams estimate that the MPC should be prepared to resume quantitative easing beyond the current £200bn to offset the fiscal squeeze that is expected to result now that the general election is over.

The meeting was rescheduled to avoid a clash with last week’s general election and comes just two days ahead of the Bank’s quarterly Inflation Report.

Barclays Capital’s Simon Hayes expects the MPC to revise its inflation projections upwards by a couple of tenths in this week’s Inflation Report but nonetheless thinks a hawkish report unlikely.

“Subsequent months will present a test of the MPC’s nerve. If inflation continues to exceed its forecasts, the Committee could be faced with a very uncomfortable dilemma.

“Perhaps in an ideal world monetary policy would be held very loose to allow the fiscal authorities to regain some of their credibility through aggressive tightening. However, the retention of monetary policy credibility is also crucial,” Hayes added.