Today’s announcement that the Bank of England decided to maintain the rate of interest at 0.5% is no surprise. However it has been nearly two years since the Bank last altered interest rates (March 2009) which certainly is a long time in Banking terms and marks the reality that the economy has needed this level of support.
Interest rates are highly likely to rise and this is where statistics and a media hungry for sensationalism. A 0.5% increase in rates might be reported by some as “INTEREST RATES RISE BY 100%” which would be technically correct, but deliberately seeks to distort.
The credit crunch has left most of us wondering if the financial services industry has bitten off more than it can chew – we are all left with the scar of having to resolve the crisis by hefty debt repayments, which to you and I translates as higher taxes and fewer services. More for less.
In practice interest rates fell sharply during the credit crunch from 5% in April 2008 reducing to 2% by the end of 2008 and then cut by 0.5% a month in 2009 until we reached the current 0.5%.
Rates since 1993 have broadly ranged between 4.5%-7.0% before the crunch rates were fairly static at around 5%. This is probably a more “normal” level for interest rates. It has been 20 years since interest rates were in double figures. Sitting here in 2011, it does seem unlikely that rates will suddenly rise to such levels, but gradually return to the 3-5% range. The main purpose of interest rates is to encourage people to save rather than spend – effectively to attempt to control the money supply and reduce or control inflation.
Inflation is currently rising, but my own view is that this is unlikley to continue and in general, inflation is “under control”. We are certainly all paying more for certain items – fuel and food, but these inflationary pressures have tended to come from additional taxes and natural cyclical problems that farmers experience from time to time. I don’t believe that this will continue for the long term. Indeed in the US they have problems that are rather worse – the prospect of deflation, which does little to help a consumer capitalist culture.
What does this mean? well in short – you’ve never had it so good if you are a borrower. Borrowing (if you can get it) is cheap. However any repayments that you are making mean that more of your money is going towards reducing the debt – which is pretty much ideal. On the other hand for cash savers, most deposit rates are so low that they are below the level of inflation, meaning that whilst your capital is “safe” you are losing money in terms of its actual spending power.
The problem that the Bank of England face is this: if inflation were to get out of control, what level would interest rates need to be to curb it? and secondly would this cripple those that are are struggling and create more problems – after all anyone that has borrowed from a good source for the first time in the last 20 years will not have known the real pain of double-digit interest rates. I would hazzard a guess that for most people with a mortgage if rates rose to 9% (for example) there would be a further property crash.
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