Dismay as interest rates rise to 6%

Fears of an inflationary boom prompted the Bank of England to raise rates yesterday to 6%, to the dismay of business and homeowners.

Industry leaders immediately called on the chancellor, Gordon Brown, not to indulge in a tax-cutting budget which would add to inflationary pressure, triggering still dearer borrowing costs. The British Chambers of Commerce (BCC) urged the chancellor to protect hard-pressed manufacturers by keeping a tight rein on the public finances in March.

"The government has let interest rates take too much of the strain in controlling consumer demand over the past two years," said BCC deputy director general Ian Peters. "It is this over-reliance on monetary policy that has led to growth being spread unevenly across sectors and between regions."

The bank's monetary policy committee (MPC) offered no explanation for the quarter point rate rise, the fourth in six months. But economists said it reflected concern that the economy is growing too fast to prevent inflation rising above the government's 2.5% target in the months ahead.

The MPC is thought to be particularly concerned about the threat posed by rapidly rising house prices in London and the South-east, strong consumer demand and high earnings growth.

Banks and building societies are expected to pass on all or most of the increase to borrowers.

The rise was widely expected in the City where it caused little reaction, but industry complained of monetary overkill at a time when inflation is below the government's 2.5% target.

The Confederation of British Industry's chief economic adviser, Kate Barker, said the rise would be an "additional handicap" to exporters struggling to compete in overseas markets due to the strong pound.

"This is more bad news for manufacturers, who have had precious little to cheer about as sterling hit record highs against the euro," she said. "Many companies will find the rise hard to understand when inflationary pressure remains so low in most sectors."

Sir Ken Jackson, general secretary of Amalgamated Engineering and Electrical Union, warned that the rate rise would "choke" exporters in the Midlands and the North. "The strong pound is already squeezing exporters. Another rise is like pouring petrol on to the fire," he said.

Ruth Lea, head of the Institute of Directors policy unit, was among the few voices in industry to support the MPC's decision. "While we recognise the real burdens placed on business by higher interest rates, we accept they need to rise in order to maintain the low inflation stability which is essential for business to thrive," she said.

But Sir Brian Moffat, chairman of Corus, formerly British Steel, warned that manufacturing in the UK was fighting for its existence.

In a speech to MPs last night, he said: "It is extremely efficient but the impact of the continued strengthening of the pound on its cost base is remorselessly undercutting its competitiveness. To date it has fought back and hung on grimly. Indeed, some commentators are saying that is is learning to live with a strong pound. But we cannot take comfort from this, nor should we believe it."

Although City economists expect the MPC to pause for breath in March, most predict further increases in interest rates later in the year.