No one expected the Bank of England to raise rates from their 0.5% low at yesterday’s Monetary Policy Committee (MPC) meeting – but it is only a matter of time before they do. Indeed, February’s minutes reveal that three of the nine MPC members favoured an immediate increase.

The key justification for a rate hike is that headline inflation is running way above the Bank’s 2% target. CPI annual inflation stands at 4.0%, while RPI is up a heady 5.1% on a year ago. Prolonged inaction in the face of such numbers risks eroding the Bank’s inflation fighting credentials, particularly now that the European Central Bank have signaled that a pre-emptive rate hike is likely for the Euro area at their 7 April meeting.

What is holding the MPC back? One factor is the view that the key drivers of recent inflation are largely external – reflecting higher commodity prices, taxes and charges – and hence outside the Bank’s control. But as ECB President Trichet warned, there is a real danger that high headline numbers will start to boost inflationary expectations, or have second round effects as they feed through into the domestic economy.

The other restraining factor has been the unexpected weakness of the UK economy, with Q4 growth falling by 0.6%. It would clearly be prudent for the MPC to ensure the recovery is back on track before starting to tighten rates. Most of the recent data suggests it is. The purchasing manager indices point to a solid first half, while UK manufacturing is experiencing something of a mini-boom, with annual production up a robust 6.85.

The key piece of economic data remaining is the preliminary Q1 GDP estimate, due on 22 April. If, as we expect, it shows a reasonable rebound in growth there should be no barrier to an official rate hike.

We expect a majority of MPC members will vote to lift the bank rate by 25 basis points (bps), to 0.75%, at their 5 May meeting. This is likely to be followed by two more 25 bps moves at the August and November meetings, lifting the bank rate to 1.25% by year-end. By historical standards that is still very low. Next year we expect to see a more aggressive tightening path, as the Bank pursues a faster pace in normalising rates.