BOE Risks 1.2 Million Jobless With Quicker U.K. Inflation Fight

(Bloomberg) --

The Bank of England would have to deliver a “huge interest rate hike” that pushes 1.2 million people out of work to bring inflation back to its 2% target this year, according to analysis by Bloomberg Economics.

Using a similar model to the BOE, Jamie Rush, chief European economist at Bloomberg Economics, said it would take a “Volcker shock” to tame rising prices, a reference to double-digit interest rates under U.S. Federal Reserve chairman Paul Volcker in 1979.

The analysis underlines the difficult trade-off that the BOE faces to bring inflation under control. Consumer prices are at a 30-year high of 5.4% and expected to climb above 6% in April, when regulators lift the energy price cap. 

The BOE has already raised rates from 0.1% to 0.25% in December and is expected to move again to 0.5% this week.

Targeting inflation too aggressively, particularly at a time of falling real wages, would swing the U.K. “from record inflation to deflation” next year and drive unemployment up to 7.6%, from 4.1% currently, Rush said. 

Even if the BOE had anticipated the inflation surge and started raising rates in the middle of last year, the policy would have lifted peak unemployment to 6.3% and pushed 760,000 people out of work, the Bloomberg Economics analysis shows. The shock would not have been as severe, and deflation avoided later, but it would still have been painful.

“Trying to get inflation to target at too short a time horizon is simply not practical,” Rush said. “Unless there's a clear and present danger of unanchored inflation expectations, offsetting all of the inflation shock isn't worth throwing that many people out of work.”

Bloomberg Economics expects the BOE to raise rates to just 0.75% this year, while financial markets expect 1.5%.

©2022 Bloomberg L.P.