Bank of England Holds at 3.75% as Risk Management Principles Guide Policy Under Uncertainty

The Bank of England has maintained interest rates at 3.75%, applying risk management principles to policy decisions under uncertainty. When outcomes are uncertain, policymakers must weigh different types of potential errors.
The monetary policy committee’s 5-4 vote reflected different risk assessments. Those voting to hold emphasized the risk of cutting too soon and allowing inflation to resurge—a Type I error. Those voting to cut emphasized the risk of maintaining rates too high and causing unnecessary unemployment—a Type II error.
Risk management requires weighing these errors’ relative costs. If allowing inflation to exceed target is much worse than tolerating somewhat higher unemployment, policy should err toward caution. If unemployment costs are worse, policy should err toward easing. Different committee members weight these differently.
The asymmetry of policy errors also matters. If cutting prematurely, the Bank can reverse course and raise rates again, though this damages credibility. If holding too long causes severe recession, the damage might be harder to repair. These considerations influence risk assessments.
Governor Bailey’s projection that inflation will fall to around 2% by spring represents a central forecast, but risk management requires considering downside and upside scenarios. If inflation instead remains at 3%, maintaining current rates would be validated. If it falls to 1%, current rates would prove too restrictive. The GDP forecast of 0.9% and unemployment rising to 5.3% similarly carry uncertainty requiring risk management. Chancellor Reeves’s budget measures, including utility bill cuts and rail fare freezes from April, reduce downside inflation risk. The forecast of 2.1% inflation by mid-2026 is a central case with two-sided risks requiring prudent management.