Shops and factories signal rate rise

Dearer mortgages seemed a near certainty yesterday after upbeat news from manufacturers and retailers left analysts saying a rate rise by the Bank of England this Thursday is a foregone conclusion.

Manufacturing expanded last month at its fastest pace for nearly four years, according to a snapshot of the sector, while a separate survey revealed the sharpest growth in retail sales for 18 months.

With evidence of a strengthening economic recovery and no sign that consumers are losing their appetite for debt-fuelled spending, economists said the Bank would be forced to raise rates for the first time since February 2000.

"The recent run of very strong survey evidence makes a 50 basis point rate hike more likely than no change at Thursday's meeting," said John Butler, UK economist at HSBC Markets.

The Bank's monetary policy committee came within a whisker of raising rates last month, with only the casting vote of governor Mervyn King sparing homeowners. A string of upbeat economic news since has convinced City traders that this week's meeting could mark the start of an aggressive campaign of rate rises.

With industry showing clear signs of pulling out of recession, the City is expecting interest rates to reach 5% by the end of next year.

Manufacturing activity jumped for the fourth month in row in October, according to the Chartered Institute for Purchasing and Supply. Its activity index reached 54.2, up from 53.2 in September and ahead of market expectations.

But manufacturers warned that recovery was still in its early stages and industry in particular was still fragile.

"The Bank needs to ensure that it does not damage business confidence with a series of quick rate rises," said Ian McCafferty, CBI chief economic adviser. "The MPC must make clear that in the coming months it will not choke off a recovery that has still not fully taken hold."

The Engineering Employers' Federation warned that a rate increase could help sterling's rise against the dollar, damaging British sales to the US, the strongest market for exports.

"The message to the Bank is 'Don't move too fast'," said Stephen Radley, the EEF's chief economist. "The chancellor should be considering fiscal measures to slow the consumer, as a balanced approach would be better."

Consumers are stacking up debt at a record pace, leading to warnings that higher borrowing costs will strain some households' finances.

Last month retail sales growth reached its fastest pace since April 2002, according to the CBI's distributive trades survey.

Although Mr King voted against a rate rise last month, he has warned that the increase in debt levels and renewed surge in house prices increase the chances of a property market crash.

Analysts said the Bank was unlikely to raise rates by as much as the market was expecting because highly indebted households are particularly sensitive to increased borrowing costs.

"Our view is that the Bank will raise rates by an initial 0.5 percentage points in the coming six months, ending next year at around the 4.25% mark," said Ciaran Barr, UK economist at Deutsche Bank.

"While this is significantly less than the market assumes, it should be enough to engineer a sharp slowdown in the housing market and a further easing in consumption growth."

The MPC will be the first of the leading central banks to tighten rates since the bursting of the dotcom bubble three years ago.

"The only possible reason for refraining from tightening monetary policy at this stage is the strength of sterling, which on a trade-weighted basis has climbed by some 3% over the past three weeks," said Simon Rubinsohn, chief economist at brokers Gerrard.