Base rate: to raise or not to raise

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Despite recent growth in economic output (GDP), the base rate is unlikely to rise any time soon.

There has been much concern about the impact of Bank of England policy on older people reliant on income from their savings to fund retirement. Annuity rates have collapsed and real (inflation adjusted) interest rates on savings accounts have been negative for some time. Bad news for those trying to annuitize or build up their savings in a bank account. Yet the impact of quantitative easing and the lower for longer Base Rate will depend on an individual’s mix of assets and liabilities. There is also a wider point about what might have happened to the UK economy had the Bank failed to act.

While headline savings rates and yields on long-dated government bonds have substantially fallen since the start of quantitative easing, some asset prices – including housing (especially in parts of London and the South) and UK equities – are back to peak. This is, broadly speaking, good news for those with property as well as those with pension funds invested in the UK stock market.

Borrowers have also, broadly speaking, benefited from the Bank’s actions. Interest rates on secured borrowing have fallen, which, alongside increasing forbearance by lenders has helped reduce the overall number of painful bankruptcies and repossessions that spiked in the midst of the crisis. And, as noted by the Bank, to the extent that QE facilitated a rebuilding of banks’ balance sheets, it “may, through lower borrowing costs, have also helped to ensure that bank lending growth fell less rapidly than would otherwise have been the case”. One could therefore make the argument that without central bank action we could have experienced a longer and deeper recession.

But here’s the thing. While the Bank of England’s actions gave the UK economy time and space to recover, many of the vulnerabilities that existed in 2008 are still with us. In particular, levels of household debt remain close to their pre-crisis peak with no significant deleveraging achieved. Part of the reason for this is that, in the absence of real income growth, many households have been unable to actively pay down debt. Therefore, as the Resolution Foundation noted in a recent paper, a rise in the Base Rate could result in a significant increase in defaults on mortgages and other forms of borrowing. And if higher interest rates help to deter further consumption by making the cost of borrowing more expensive, this could derail the recovery – remember that we are still undoubtedly in recovery mode given that our level of output is not yet back to where it was before the crisis, and consumption remains the only game in town.

Profile of the recovery in historical perspective

Source: NIESR:

We are therefore in a sort of limbo – waiting for good news about rising household incomes, improving labour market conditions and more broad-based economic growth. However, with inflation (CPI) now back to target and latest data showing real wages are continuing to fall, the Bank will be under no urgency to raise the Base Rate any time soon.


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