Visual summary - Inflation Report August 2018

Our role is to set interest rates to influence the amount of spending in the economy in order to ensure inflation (the pace of price rises) returns to our 2% target sustainably.

The reason we focus on low and stable inflation is that it is vital for a stable economy that supports growth and jobs.

If we set interest rates too low, then the economy will run too hot, and inflation will stay above our target. But if we set interest rates too high or raise them too rapidly then the economy will be too weak, and inflation will fall below our target.

During the financial crisis, people reined in their spending and many lost their jobs. We had to cut interest rates to exceptionally low levels to support spending and jobs. Over the past few years, our economy has needed interest rates to stay very low as we recovered from the global financial crisis. But things have been changing.

Last November, we raised the official interest rate we set, known as Bank Rate, from 0.25% to 0.5%. And now we have raised it to 0.75%.

If the economy continues to perform as we currently expect, it will probably be growing about as fast as it can without overheating. In that case, we think we would need to raise interest rates further, reducing the amount of support we are providing to the economy. But we expect those increases to be gradual. And interest rates will probably need to stay lower than the 4-5% they used to be for some time to come. That’s primarily because there have been some big structural shifts in the global economy that are likely to persist.

A rise in interest rates might seem like a bad thing, especially if you have a lot of debt.  But it would be a sign of an economy growing about as fast as it can, and one that is able to support higher wages. And small increases in interest rates now can avoid the need for bigger ones later.

• View chart See how the share of people out of work is now at its lowest level for more than 40 years
  

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The squeeze on pay is easing

Over 2017, prices were rising faster than wages meaning people were not able to afford as much. That is now starting to change.

Pay rises for most have been pretty low. But recently wages on average have started to rise faster than prices again. That is easing the squeeze on people's living standards.

That squeeze should ease further over the next few years. The share of people out of work is at its lowest level for more than 40 years. And there are a lot of job vacancies. This means that companies need to compete hard with each other to recruit and retain workers. One way they do that is by offering higher pay.

The pressure in the jobs market means we're expecting to see bigger, more widespread pay rises in coming years.  That greater spending power should support growth in the economy.

• View chart See how pay is starting to rise more than prices
  

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The interest rate decision

In May, we said that if the economy performs broadly as we expect, then we would need to reduce the amount of support we are providing to make sure inflation returns sustainably to the 2% target. We thought that would probably require modest rises in interest rates over the next few years.

Since then, the economy has developed broadly as expected. So we have removed a little of the support, raising interest rates from 0.5% to 0.75%.

If the economy continues to perform as expected, we think we will need to raise interest rates a bit more over the next few years. We expect any rises in interest rates to happen at a gradual pace and to a limited extent. Interest rates are likely to remain substantially lower than a decade ago.