Why might the Bank of England raise the bank rate if inflation rises above 2%?

The Bank of England (BoE) has a target for inflation of 2.0%. If inflation rises above 2% the BoE will therefore try and decrease inflation. Increasing the bank rate leads commercial banks to (usually) increase their interest rates. This makes investments in British banks more profitable and so increases demand for the sterling (£). This is because money deposited in British banks must be in GBP (£). As demand increases, ceteris paribus [all other things (especially, in this case, supply) remaining equal], the value of the £ will rise. This is deflation/will exert a deflationary pressure on the £. This will help lower inflation back towards the BoE’s target of 2%.

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Answered by Samuel F. Economics tutor

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