Bank plays safe with rates on hold

The Bank of England pegged interest rates at 3.5% yesterday for the second month amid signs of a pick-up in activity across all sectors of the economy. In an expected move, the Bank's monetary policy committee decided that a further boost to growth would risk higher inflation in the future, while higher borrowing costs might risk choking off the recovery.

Industry said the decision to leave rates at a 48-year-low was sensible, but warned that the Bank should give the economy plenty of time to recover before contemplating the first increase in rates since 2000. Stephen Radley, chief economist at the Engineering Employers Federation, said: "The decision is the right one. Business now needs a period of stability to let it take advantage of the improving economic outlook and to rebuild confidence."

Sentiment in the City has changed in recent weeks as the data on the economy has shown evidence of strong consumer and public spending prompting a revival from the weakness in the first half of the year. Low interest rates in both the US and the eurozone have also led to growing optimism that British manufacturers may benefit from rising global activity.

Gordon Brown remains confident that the economy will strengthen over the coming months, allowing him to get close to his 2-2.5% growth forecast for this year and keep public borrowing under control. Treasury sources stressed that the UK was in far better shape than the other big economies of Europe.

Despite forecasts suggesting that the eurozone may expand by only 0.5% this year, the European Central Bank yesterday decided to leave rates unchanged at 2%. It believes there is a limit to what monetary policy can do to boost growth until countries implement reforms of their labour markets and welfare states.

While acknowledging that the next move to rates in the UK could be an increase, business leaders have warned poor timing could choke the recovery before it has gathered sufficient momentum. Ian McCafferty, chief economist at the CBI, said: "No one in business will be surprised by this decision. But the Bank should be under no illusions about the continued fragility of the economy. This is going to be the long haul and it will take time before we can be confident of a sustained and balanced recovery."

David Frost, director general of the British Chambers of Commerce, said: "Inflation is under control and there is scope to keep rates at their record low level for some time to come."