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Bank of England stands pat on rates, but increases inflation forecast

Bank of England Governor Mark Carney
Bank of England Governor Mark Carney has warned of uncertainties for the U,K. economy following last June’s Brexit vote.

The Bank of England held U.K. interest rates at 0.25% and maintained the country's asset purchase programs in line with market expectation, but adopted a slightly more hawkish stance.

The central bank will maintain its U.K. government bond holdings, which are financed by the issuance of central bank reserves, at £435 billion ($563 billion), and non-financial investment-grade corporate bond purchases at £10 billion.

A news release by the Bank of England's monetary policy committee, which sets policy to meet a 2% inflation target, said the committee voted 7-1 at its meeting Wednesday to maintain interest rates. All members voted for maintaining the asset purchase programs.

The BoE said aggregate demand slowed markedly in the first quarter 2017, with the MPC's central projection for quarterly growth to remain around current rates. “The slowdown appears to be concentrated in consumer-facing sectors, partly reflecting the impact of sterling's past depreciation on household income and spending. The committee judges that consumption growth will be slower in the near term than previously anticipated before recovering in the latter part of the forecast period as real income picks up,” said the release.

The pound sterling appreciated 2.5% between the release of the bank's February and May inflation reports — also published Thursday — but remains 16% below its peak in November 2015. Shorter-term U.K. interest rates also fell over the period.

The bank made slight revisions to growth forecasts for the U.K. This year, growth is expected at 1.9%, down from 2% in the February inflation report. For 2018, growth was revised to 1.7% from 1.6%; and for 2019 the growth forecast has improved to 1.8% from 1.7%.

Consumer price index inflation has risen above the 2% target, as the longer-term fall in sterling fed through to consumer prices, said the inflation report. The bank expects inflation to reach 2.8% in the fourth quarter, impacted by higher import prices. The bank also revised its inflation projection for 2017 to 2.7% from 2.4%. Inflation for 2018 was revised down to 2.6% from 2.8% in the previous report; and 2019 inflation is expected to be 2.2%, down from 2.5%.

Money managers said the bank's actions were anticipated by the market. However, they do not expect a rate hike anytime soon. “Having cut the two-year forward inflation forecast, it's difficult to see any pressure for a rate hike in the near term,” said Cosimo Marasciulo, head of European fixed income at Pioneer Investments, in a reaction statement.

However, managers noted the forecasts are based on a “smooth” U.K. exit from the European Union. Should this happen, Mark Carney, governor of the BoE, suggested at a press conference Thursday that “monetary policy will need to be tightened” by a greater amount than the market is currently expecting.