There’s more chance of a UK interest rate rise than you think

The Bank of England didn’t vote to raise interest rates yesterday.

But it came closer than it has at any point since the financial crisis kicked off.

Investors have got rather too used to seeing the Bank studiously ignore inflation data, regardless of how far adrift it is from its target. So it was little wonder markets fell out of bed in shock.

But does this mean we might actually see interest rates go higher in the near future? Or is it just a false dawn for savers?

Shock, horror – Bank of England raises half an eyebrow at inflation

The Monetary Policy Committee – the gang of nine who set Britain’s most important interest rate – is currently down to eight members (after Charlotte Hogg had to resign as deputy governor).

Yesterday, of those eight, three voted to raise interest rates.

So, while nothing actually happened, the market got a shock when it realised that some members of the Bank of England still care, at least a little, about the idea that it’s meant to at least try to keep a lid on inflation.

The pound spiked higher on the one hand (higher interest rates make a currency more appealing). And on the other hand, stocks fell: partly because global stocks fell yesterday anyway, but also partly because stockmarkets don’t like the idea of higher interest rates, particularly when the economy looks a bit wobbly anyway.

Really, it should come as no surprise that some members of the MPC are getting edgy about inflation. The fact that it took markets aback, shows just how accustomed we’ve become to the Bank basically ignoring its

Inflation, as measured by the consumer prices index (CPI), is rising at an annual rate of 2.9%. That’s already above where the Bank had expected inflation to peak this year. And if it goes above 3% and stays there for long, Bank governor Mark Carney has to start writing letters to the chancellor explaining why he’s not doing anything about it.

And what really puts it into perspective is when you look at the measure that the Bank used to target – RPIX. That’s the retail price index (RPI), excluding mortgage costs. Back in the early 2000s, the Bank used to aim to keep RPIX at around 2.5%. It’s now sitting at 3.9% – a pretty significant miss.

So what are the odds of rates actually being raised at any point?

There’s more chance of an interest rate rise than we might think

Most people seem to think that there’s little chance of the Bank actually voting to raise rates. And there are lots of solid reasons to back up that view.

Firstly, Kristin Forbes, one of the members who voted for a rate rise – and who has consistently done so for the last few meetings – is now leaving. So the chief “hawk” won’t be there next time. We don’t know who’ll replace her (and it means there might be two vacant slots come the next meeting in August), but chances are they won’t be as keen to hike rates.

Secondly, inflation has been a lot higher than this in the recent past and the Bank has ignored it. CPI got up to more than 5% in 2011 (mainly due to commodity prices spiking), and the Bank stuck to its guns. (Although it’s worth remembering that the economy was in a much ropier state back then with unemployment still obviously high).

Thirdly, history shows that the Bank governor is usually – though not always – on the winning side of any interest rate debate. And Mark Carney certainly seems to favour keeping rates as low as possible while Brexit carries on.

Finally, the economic data hasn’t been great (retail sales data came in very weak yesterday) and wages are showing no sign of picking up.

So you can easily make the argument that this is a fluke.

However, it’s not quite as cut and dried as all that. And given where the consensus is, I’d be wary of just dismissing the odds of a rate hike.

For a start, commentators do seem to be forgetting that any rate hike would just be a reversal of the “emergency” rate cut put in place after the Brexit vote last year. So a quarter-point rate rise could be voted through on that basis, without it necessarily meaning that we’re at the start of a long series of rate hikes.

Also, inflation is very likely to go higher. If the “hawks” are getting twitchy now, wait until CPI is above 3% and RPI is nudging 4.5%. Throw in a bit of positive economic data or any sort of splurge on infrastructure spending by the government, and you’d soon have all the reasons you needed to nudge rates up.

So I think there’s more chance of a hike than many people seem to think.

As far as your money goes – if you’re a saver, don’t get too excited. An extra quarter point is not likely to make much of a difference to your savings, particularly as you now need to get an interest rate of at least 2.9% to get a “real” (after-inflation) return on your money. Do not expect the Bank of England to “get ahead of the curve” as far as rates go.

However, it might be a warning shot for mortgages. Most mortgages taken out in recent years have been fixed rates in any case, but if you’re thinking of remortgaging, it’s probably worth looking at deals just now. And possibly the threat of higher rates might continue to take the edge off house prices.

But at the end of the day, it’s 0.25%. It shouldn’t be this big a deal. The fact that we can get a fit of the vapours over the mere potential for a minuscule shift in rates shows just how messed up our economic system has become. But that’s ground I have trodden over and over and over again here in the past, so we’ll leave that discussion for another time.

  • Horiboyable .

    Bond Bubble collapse = Interest rates go to the moon.
    ETA, will start by about the end of this year early next. Liquidity will dry up.
    Civil unrest and governments will collapse.

    • Peter Edwards

      Wrong, first wobble 4Q, then stock market craters next year.

      Bond yields will then turn negative….
      Those predicting a Bond Market collapse are dreaming.

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  • ZetrocUK

    1. Governments and central banks record as much and as little inflation as they want to. And for them, there are such things as right and wrong inflation.
    2. The Bank interest rate has not been used as an economic tool for 20 years. It is now a political tool.
    3. We live in an age where economists think they are politicians, and politicians think they are economists. The vast majority on each side think economics is a science.

    In summary, if the current way of recording inflation presents inconvenient data, they will simply ignore it, interest rates aren’t going anywhere for years, and – if you haven’t done so already – you should start apologising to your children now.

    Bonus point: Mark Carney is being paid almost £1m a year by UK taxpayers to set up a run for 24 Sussex Drive in Ottawa. He has done nothing else since arriving in London.

    • ZetrocUK

      …and we see today that the Bank, worried about ballooning debt and easy credit, has ordered the retail banks to find billions and billions more to insulate themselves against the next crisis.

      No, interest rates are not going anywhere for a very long time.