Bank governor voted against cut in rates

The most serious schism in the Bank of England's monetary policy committee since it was granted operational independence in 1997 was laid bare yesterday after it was revealed that the governor, Mervyn King, led a faction opposing this month's cut in base rates.

Mr King became the first governor in more than 100 meetings to be on the losing side in an MPC vote after he and three Bank colleagues failed to prevent a cut in the cost of borrowing to 4.5%.

The second knife-edge 5-4 vote on the nine-strong committee in two months shocked the City, where there had been predictions of a more clear-cut decision to loosen policy. Sterling rose strongly as dealers speculated that the decision ruled out further cuts in interest rates for the near future. Markets expected a near-unanimous decision at worst.

David Hillier, chief UK economist at Barclays Capital, said it was clear that rates would not be cut "any time soon". He said the narrow vote, Mr King's opposition to lower rates and the hawkish tone of the Bank's quarterly inflation report all suggested rates would stay on hold this year.

The Bank played down the significance of Mr King's stance, saying that he had long anticipated a time when the governor would be in the minority, and that the debate at the meeting in early August had been polite rather than bitter.

"The governor and his predecessor have previously explained ... that they would be prepared to vote with the minority. They made clear that this would fit naturally into the MPC process," the Bank said.

Analysts said the unexpectedly sharp rise in inflation to 2.3% last month - which was announced earlier this week - had vindicated the caution of Mr King; the Bank's two deputy governors, Rachel Lomax and Sir Andrew Large, and its executive director for financial markets, Paul Tucker.

"With oil prices likely to remain strong, producer input prices rising sharply and an acceleration in unit labour costs since the turn of the year, it was too early to conclude inflationary pressures had abated," the minutes said.

"Adding to the strength of the recovery would risk adding to inflationary pressures while costs were still working their way through."

Mr King and his three colleagues were defeated after all four external members of the MPC - Kate Barker, Stephen Nickell, David Walton and Richard Lambert - were joined by the Bank's chief economist, Charles Bean, in voting to stimulate the economy.

Mr Lambert's proved to be the key vote after siding with Mr King and the three bank insiders in opposing lower interest rates in June.

The quintet calling for a cut said it was necessary following subdued output growth in the first half of 2005 but that they did not see the August decision as starting a downward trend. "A failure to reduce rates now might damage confidence," the majority argued.

"Early action would reduce the risk that greater changes in the policy rate would be needed at some point in the future, and would not preclude a rise in rates in the future if the data warranted it ... there was no presumption on the future direction of interest rates."