House price rise adds to pressure on Bank to increase rates

Rising house prices and slower industrial growth provided a fresh dilemma for the seven current members of the Bank of England's monetary policy committee as they began a two-day meeting this morning to decide interest rates.

Ahead of what is seen in the City as one of the more testing decisions for the Bank, the Nationwide Building Society said house prices rose 0.8% in July, pushing the annual rate of property inflation to a 15-month high of 5.9%. The UK's purchasing managers, by contrast, reported that manufacturing came off the boil last month, with companies' profit margins squeezed by rising energy costs.

The City consensus last night was that the MPC will continue a period of inactivity that stretches back to this time last year. In the past two years, the Bank has made only one change in interest rates - an unexpected quarter-point reduction to 4.5% in August last year - and most analysts think caution will once again prevail tomorrow. Gently rising unemployment, the lack of any upward pressure from pay settlements and the prospect of a sharp slowdown in the global economy are thought likely to stay the Bank's hand.

But a growing minority of City experts believe that there has been enough recent evidence to justify tightening monetary policy and that the Bank will spring another surprise.

Speculation has grown that the Bank may be poised to move, despite the fact that the MPC was unanimous last month that rates should be kept at 4.5%. Fresh evidence has shown that the economy has been growing more strongly than the government believed over the past two years, reducing the amount of spare capacity in the economy. Marian Bell, a former member of the MPC, said that if she were still on the committee she "would be beginning to examine the case for a rate rise, in the light of the growth pick-up and the strong growth in the money supply".

Despite the rival attraction of the World Cup, spending in the shops in the three months to June was the strongest for almost two decades, while the rising cost of energy - both in the home and for motorists - has pushed inflation to 2.5%, its highest level since Labour came to power.

UK exporters are also being helped by the strength of global demand. Unemployment in the 12-nation eurozone fell by 0.1 points to 7.8% last month, its lowest rate for five years, while yesterday's purchasing managers' report in the US was more upbeat than Wall Street expected.

Kevin Daly, an economist with Goldman Sachs, said he expected the MPC to raise rates. "A central banker's job, according to one former chairman of the Federal Reserve, is to remove the punchbowl as the party gets going," he said. "For the UK economy, that time is now."

But some analysts said the softer tone of yesterday's UK purchasing manager's index pointed to no change. Gavin Redknap, a Standard Chartered economist, said the fall from 55.0 to 53.8 showed that manufacturing was still growing but at a slower rate. Inflationary pressures on manufacturers were, however, increasing.

"A combination of slowing growth and rising prices pressures at the same time is never a good thing for policymakers. The best course of action available to the Bank is the one that it has been following for a year now - keeping rates on hold. We expect the Bank to do just that."