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Economy

Bank of England keeps rates steady, expected to overshoot inflation target for years

U.K. interest rates were kept steady at 0.25% following the latest meeting of the Bank of England's Monetary Policy Committee.

The committee, which sets monetary policy to meet a 2% inflation target, voted 7-2 to retain rates at its meeting Wednesday. The committee also voted unanimously to maintain its asset purchase program.

A notice outlining the decision said data since the bank's August inflation report points to "a slightly stronger picture than anticipated," with GDP growing 0.3% in the second quarter of 2017 and the unemployment rate has continued to fall, to 4.3%.

The notice said the pound sterling exchange rate has been "volatile and the price of oil has increased." Headline and core inflation were slightly higher in August than expected, with 12-month inflation rising to 2.9%. It is now expected to rise to above 3% in October.

"The circumstances since the referendum on EU membership, and the accompanying depreciation of sterling, have been exceptional. Monetary policy cannot prevent either the necessary real adjustment as the United Kingdom moves toward its new international trading arrangements or the weaker real income growth that is likely to accompany that adjustment over the next few years," said the notice.

It added that recent developments "suggest that remaining spare capacity in the economy is being absorbed a little more rapidly than expected at the time of the August report, and that inflation remains likely to overshoot the 2% target over the next three years."

Should the economy follow a path broadly consistent with projections in the August inflation report, monetary policy could require tightening "by a somewhat greater extent over the forecast period than current market expectations … A majority of MPC members judge that if the economy continues to follow a path consistent with the prospect of a continued erosion of slack and a gradual rise in underlying inflationary pressure, then with the further lessening in the trade-off that, this would imply some withdrawal of monetary stimulus is likely to be appropriate over the coming months in order to return inflation sustainably to target. All members agree that any prospective increases in bank rate would be expected to be at a gradual pace and to a limited extent."

Alan Wilson, active fixed-income portfolio manager at State Street Global Advisors, said in a reaction comment: "Contrary to market expectations, the MPC has stepped up its hawkish rhetoric at the September meeting. From today's release, it is clear the committee has run out of patience with market based rate expectations — the economy has performed in line with BoE forecasts, while the labor market has tightened below the non-accelerating inflation rate of unemployment estimates, while at the same time Brexit-driven sterling weakness has resumed. Yet, there has been a downward shift in market-based rate pricing."