Bank of England surprises with rate hike, ECB holds

Monetary policy and central bank actions need not always be boring. Bank of England has delivered an exciting story to the markets, by raising its base rate by another quarter-point to 5.25%. This follows two earlier hikes of same magnitude, as part of an effort to stem inflationary pressures – one in November last and another one in August, the hike in August being similar to the latest one in surprise element.

The European Central Bank, on the other hand, decided to hold rates steady while hinting at an increase later this quarter.

The Bank of England’s move is spurred by worries on creeping inflation which reached 2.7 percent in November — above the bank's target of 2 percent for the seventh month in a row. Given the expectations that inflation may rise further, the BoE's pre-emptive strike looks sensible. What surprised the markets is the timing of the move. It was widely expected that the central bank would wait until February, when it would take stock of the economy as part of its quarterly review of inflation prospects.

The ECB, meanwhile, left its benchmark rate unchanged at 3.5 percent, but President Trichet's comment that it would engage in "very close monitoring" of inflation risks is taken as a signal that a quarter-point hike could be on the cards for March. Annual inflation in the euro zone was at 1.9 percent in December, just below the ECB's target of about or below than 2 percent.

The ECB's forecasts for euro-zone growth this year are between 1.7 percent and 2.7 percent, up from 1.6 percent and 2.6 percent issued last year. For next year, GDP growth is expected to be between 1.8 percent and 2.8 percent. While Trichet said euro-zone inflation is expected to hover at around 2 percent this year and in 2008, analysts expect inflation to rise above the ECB's target early this year and lead to a rate increase in March. The ECB sets policy for 13 nations with more than 316 million people and a combined gross domestic product that accounts for more than 15 percent of the world's economy.