Interest Rate Rise - a good idea ?

[Dai Corner]

So, how exactly will changing domestic interest rates fi the actual causes of inflation, Chinese Lockdowns, Ukrainian grain shipments, and Russian oil exports?

I understand that in theory, it it reduces the marginal propensity to consume, by increasing the return on savings; but that seems to vastly misunderstand the financial situation that many people find themselves in after the last decade of wage stagnation and house price increases.

This is how the Bank of England Monetary Policy Committee put it

Bank Rate increased to 2.25% - September 2022

Monetary Policy Summary and minutes of the Monetary Policy Committee meeting

www.bankofengland.co.uk

There have been further signs since the August Report of continuing strength in domestically generated inflation. In and of itself, the Government’s Energy Price Guarantee will lower and bring forward the expected peak of CPI inflation. For the duration of the Guarantee, this might be expected to reduce the risk that a long period of externally generated price inflation leads to more persistent domestic price and wage pressures, although that risk remains material.

The labour market is tight and domestic cost and price pressures remain elevated. While the Guarantee reduces inflation in the near term, it also means that household spending is likely to be less weak than projected in the August Report over the first two years of the forecast period. All else equal, and relative to that forecast, this would add to inflationary pressures in the medium term.

In view of these considerations, the Committee voted to increase Bank Rate by 0.5 percentage points, to 2.25%, at this meeting.

 

[Yew]

So the banks plan is to stop people spending by taking money out of their pockets and giving it to other banks?

To them they might consider working people spending money as “inflationary pressure” but to us it’s real people struggling to get by. It’s a real terms cut to quality of life.


This inflation crisis was not caused by domestic spending. It was caused by political factors. Just with the oil crisis of the 70s, it’s not a free market problem, it’s a political problem. No amount of playing with interest rates is going to suddenly cause the Chinese to open up, or the Russians to turn on the taps.

 

[Dai Corner]

So the banks plan is to stop people spending by taking money out of their pockets and giving it to other banks?

To them they might consider working people spending money as “inflationary pressure” but to us it’s real people struggling to get by. It’s a real terms cut to quality of life.


This inflation crisis was not caused by domestic spending. It was caused by political factors. Just with the oil crisis of the 70s, it’s not a free market problem, it’s a political problem. No amount of playing with interest rates is going to suddenly cause the Chinese to open up, or the Russians to turn on the taps.

Not everyone is struggling to get by or is made worse off by a rise in interest rates.

For example, the value of my life savings has been decreasing faster than the amount I receive in my pension. In effect I have a negative income, but I manage ok by living off my savings. I welcome anything that decreases the gap between savings rates and inflation and hope it's not too long before the former exceeds the lattter.

 

[Bletchleyite]

Not everyone is struggling to get by or is made worse off by a rise in interest rates.

For example, the value of my life savings has been decreasing faster than the amount I receive in my pension. In effect I have a negative income, but I manage ok by living off my savings. I welcome anything that decreases the gap between savings rates and inflation and hope it's not too long before the former exceeds the lattter.

My Dad did make this point to me earlier - he has savings so would benefit from higher rates. In the end we do want to encourage saving, so rock bottom rates are a bad thing long term.

As I've maintained, 4-6% is a sensible, balanced long term rate in a properly functioning economy (with a rate of inflation somewhere between 1-3%, ideally towards 1% but bearing in mind that deflation is quite dangerous, but such that your savings in the bank aren't effectively depreciating), and if you look historically it's mostly been around there except during various crises.

 

[yorksrob]

Yes, this. Fundamentally if you flooded the market with genuinely affordable homes, prices would reduce. They're high because demand outstrips supply.

You wouldn't have thought it, the amount of flats that seem to be going up all the time.

 

[ChrisC]

Not everyone is struggling to get by or is made worse off by a rise in interest rates.

For example, the value of my life savings has been decreasing faster than the amount I receive in my pension. In effect I have a negative income, but I manage ok by living off my savings. I welcome anything that decreases the gap between savings rates and inflation and hope it's not too long before the former exceeds the lattter.

I’m very much the same. Since I took early retirement from teaching 8 years ago I have been managing quite well even with my slightly reduced teachers pension. I also have savings and these last 2 years I have begun to have to start to dip into them as my pension has not quite been enough. I’m not worried as that’s what my savings were for. I’m fortunate in having inherited my parents house in a nice village and having worked without any time off for 37 years. I’m not a millionaire but I do have a reasonable amount of savings. I get my State Pension next month and so that’s an added bonus to help pay the energy bills. Having been retired 8 years, and now in my mid 60s I’m beginning to realise that I do need to start spending more and use my savings.

Any rise in interest rates will be of advantage to me as interest rates on savings have been almost non existent for so long now. Of course I accept that high inflation could very well cancel that out. I know that I’m very fortunate to not have any financial worries as we enter a difficult winter and probably a difficult few years. I really do not know how anyone on low wages with a mortgage or someone only on a basic pension is going to manage. Higher interest on my savings is a help for me but higher interest on mortgages is a nightmare to many more.

 

[david1212]

Not everyone is struggling to get by or is made worse off by a rise in interest rates.

For example, the value of my life savings has been decreasing faster than the amount I receive in my pension. In effect I have a negative income, but I manage ok by living off my savings. I welcome anything that decreases the gap between savings rates and inflation and hope it's not too long before the former exceeds the latter.

Likewise.

Given my time again if I had put my pension & all other funds under the mattress last April overall now the real value would be more. I'm increasingly doubtful that will change by next April. While anything cash would be loosing the 1 - 2% gain the actual drop in fund values significantly outweighs this.

 

[DelayRepay]

I guess I am not alone in having a mortgage fixed at a very low rate, and savings accounts paying a higher rate. I was going to make a mortgage overpayment but, for now, it makes sense to keep the cash. Obviously when the mortgage fix ends it's likely to be a very different situation.

 

[Class 317]

Anyone who is on a fixed rate and who can afford to overpay on their mortgage should really do so.
Rates will be much higher when fixed rates are renewed and extra equity will help reduce the cost of future mortgage repayments over the longer term.

 

[Mcr Warrior]

Anyone who is on a fixed rate and who can afford to overpay on their mortgage should really do so.
Rates will be much higher when fixed rates are renewed and extra equity will help reduce the cost of future mortgage repayments over the longer term.

Some fixed rate mortgages do have limits on the amounts by which you can repay in either a lump sum or on a monthly overpayment basis, but, generally speaking, this is sensible advice.

Not only will it reduce the overall cost of mortgage repayments over the lifetime of the mortgage, it should also, if you keep the overpayments up, bring forward the final repayment date by several years.

 

[Bald Rick]

Anyone who is on a fixed rate and who can afford to overpay on their mortgage should really do so.
Rates will be much higher when fixed rates are renewed and extra equity will help reduce the cost of future mortgage repayments over the longer term.

That depends on the rate. If you are fixed at, say, 1%, then rather than overpaying it is better to invest the money - you can get around 3% in cash accounts if you look hard enough, and 4-5% in the stock market on solid, safe blue chip companies (BP, Severn Trent, etc).

 

[philosopher]

That depends on the rate. If you are fixed at, say, 1%, then rather than overpaying it is better to invest the money - you can get around 3% in cash accounts if you look hard enough, and 4-5% in the stock market on solid, safe blue chip companies (BP, Severn Trent, etc).

This year I have found to be absolutely dreadful in terms in investing, with even supposedly fairly safe investments such as National Grid shrinking in value considerably. Bonds, which are normally quite stable have done particularly badly, declining more than 20% over the course the year.

Now I know it will very likely improve in subsequent years, bonds in particular must be at the point where they undervalued, but if you first got into investing this year, you would probably be scared off for life!

 

[ABB125]

but if you first got into investing this year, you would probably be scared off for life!

I haven't quite reached that stage yet. When (if?) EasyJet takes off again (pun intended!), I'll be quite pleased.
Obviously I have a number of other investments in other areas. Every single one of which is down, by over 20% overall!

 

[DelayRepay]

Anyone who is on a fixed rate and who can afford to overpay on their mortgage should really do so.
Rates will be much higher when fixed rates are renewed and extra equity will help reduce the cost of future mortgage repayments over the longer term.

My mortgage rate is 1.49 and my regular savings account is paying 3%. So it makes more sense to save the money for now, and make a lump sum repayment when my fixed rate ends. The other benefit of my approach is I have access to a pot of cash, in case of financial emergencies, which may be useful given the cost of borrowing.

 

[Bald Rick]

My mortgage rate is 1.49 and my regular savings account is paying 3%. So it makes more sense to save the money for now, and make a lump sum repayment when my fixed rate ends. The other benefit of my approach is I have access to a pot of cash, in case of financial emergencies, which may be useful given the cost of borrowing.

There was a time in the aftermath of the banking collapse where I was borrowing from my building society at a rate 0.7% less than I was saving back with them. Obviously I maxed out the mortgage and made 0.7% free money. Think I made about £1000 over two years with minimal effort. Similar opportunities are available now for those that locked in the low rates from a year ago.

 

[brad465]

News today that borrowing costs are more or less back to where they were when the Bank of England stepped in after the mini-Budget. If the gilt values become unattractive to potential buyers, then the Bank of England will have no choice but to raise interest rates to make them more attractive to investors, regardless of any consequences that come from higher rates elsewhere. After all, the Government can only borrow what investors allow it to borrow.

 

[brad465]

Now up to 3.5%, although this is a slower increase than the previous meeting:

UK interest rates raised to highest level for 14 years

The Bank of England lifts borrowing costs to 3.5% from 3%, the ninth rise in a row.

www.bbc.co.uk

The Bank of England has raised UK interest rates to their highest level for 14 years as it battles to stem soaring prices.
It increased them to 3.5% from 3%, marking the ninth time in a row it has hiked interest rates.
The rise will mean higher mortgage payments for some homeowners and those with loans at a time when many people are struggling with the cost of living.
It should also benefit savers, if banks pass on the higher rate to customers.
The Bank of England has been attempting to calm rising prices since the end of last year.
Inflation - the rate at which prices rise - has been increasing at its fastest rate for 40 years as the cost of food and energy soars.
Raising interest rates should, in theory, encourage people to borrow and spend less and save more. This should help bring down the rate of inflation.
Announcing its latest rise, the Bank indicated it was likely to continue to increase interest rates next year.

It means that homeowners with variable rate mortgages or first-time buyers looking to get on the property ladder could face higher costs.
Following the latest rate rise, people on a typical tracker mortgage will pay about £49 more a month while homeowners with a standard variable rate mortgage face a £31 jump.

 

[DelayRepay]

At the risk of stating the obvious, this isn't going to help those with mortgages or unsecured debt - and for mortgages will hurt more households as people's fixed rate deals start to expire. I completely understand the economic theory that this reduces consumer spending, and therefore leads to lower inflation.

But given the root cause of our inflation is energy prices, I am not sure higher rates will help in practice. They will just cause more hardship, and continue to cause demands for higher pay so that people can afford to pay their mortgages.

 

[brad465]

At the risk of stating the obvious, this isn't going to help those with mortgages or unsecured debt - and for mortgages will hurt more households as people's fixed rate deals start to expire. I completely understand the economic theory that this reduces consumer spending, and therefore leads to lower inflation.

But given the root cause of our inflation is energy prices, I am not sure higher rates will help in practice. They will just cause more hardship, and continue to cause demands for higher pay so that people can afford to pay their mortgages.

It does have an effect in the sense that the value of the pound is improved (or sustained if other Central Banks raise at the same rate), so our imports are cheaper compared to if there were not raised so much, which is important as we import energy and other goods, while experiencing a trade deficit.

There are two problems with mortgages I think: one is that some have overleveraged due to cheap rates, and also for standard homeowners, a combination of wage stagnation and house prices being inflated by the BoE's own behaviour for so long has meant that house prices have risen faster than wages have, so many mortgage holders haven't been able to prepare for a time like this well (and then of course there are plenty who cannot even afford one in the first place because of wage stagnation relative to house price inflation).

 

[Nicholas Lewis]

It does have an effect in the sense that the value of the pound is improved (or sustained if other Central Banks raise at the same rate), so our imports are cheaper compared to if there were not raised so much, which is important as we import energy and other goods, while experiencing a trade deficit.

It should but £/$ dollar has dropped back 2cents today as mr market doesn't see it as enough compensation compared to US so going to need more rises in new year.

There are two problems with mortgages I think: one is that some have overleveraged due to cheap rates, and also for standard homeowners, a combination of wage stagnation and house prices being inflated by the BoE's own behaviour for so long has meant that house prices have risen faster than wages have, so many mortgage holders haven't been able to prepare for a time like this well (and then of course there are plenty who cannot even afford one in the first place because of wage stagnation relative to house price inflation).

The bigger issue here is majority of homeowners are on fixed rates still and even with c100k/mth expiring moving rates up is just too laggy to have an immediate effect like it used to but its having an enormous impact on those who have to remortgage. Also many people have built up large amount of savings through covid so can many can offset the impact in short term.

But given the root cause of our inflation is energy prices, I am not sure higher rates will help in practice. They will just cause more hardship, and continue to cause demands for higher pay so that people can afford to pay their mortgages.

Indeed energy prices have gone up by at least 300% over last year and again because many companies were on long term deals they have been able to insulate themselves from the immediate impact but as those arrangements end they are having to raise prices. So my view is inflation could well be sticky for several years but i can't see the BoE will keep raising rates as in the end it risks a banking crisis. This is because business and individuals will not be able to pay off the loans and declaring themselves bankrupt which if on an epidemic scale will cause a banking crisis. So ultimately keeping stability in the banking system trumps inflation and thus I can't see much more than another 1% tops on interest rates. The US is in a similar situation so we should avoid having to keep matching rate rises to manage £/$ exchange rate as they will have to limit further rises.

 

[najaB]

But given the root cause of our inflation is energy prices, I am not sure higher rates will help in practice.

A cause, not the cause. Spain is paying as much for gas as we are, yet their inflation is only 6.8%. In Europe (excluding Türkiye) only Italy has a higher rate of inflation than us currently.

 

[JamesT]

A cause, not the cause. Spain is paying as much for gas as we are, yet their inflation is only 6.8%. In Europe (excluding Türkiye) only Italy has a higher rate of inflation than us currently.

Are you prefixing Europe with Western? Then it might be almost true. https://tradingeconomics.com/country-list/inflation-rate -?continent=europe shows the UK has lower inflation than the EU average, mostly that is driven by Central/Eastern Europe, though Italy and Sweden also have higher rates.

 

[yorksrob]

A cause, not the cause. Spain is paying as much for gas as we are, yet their inflation is only 6.8%. In Europe (excluding Türkiye) only Italy has a higher rate of inflation than us currently.

It does suggest that it's clearly the lions share though.

Stimulating the domestic service industry is the only way to keep the economy going without generating inflation.

If you think about it, your publican isn't going to put up the price of food and drink just because there are more people coming through the door. The labour shortage may result in longer queues at the bar but not higher prices.

 

[Nicholas Lewis]

It does suggest that it's clearly the lions share though.

Stimulating the domestic service industry is the only way to keep the economy going without generating inflation.

If you think about it, your publican isn't going to put up the price of food and drink just because there are more people coming through the door. The labour shortage may result in longer queues at the bar but not higher prices.

Their suppliers will be putting up prices though. In beer you have massive increase in energy costs compounded by 30%+ increases in the basic ingredients like barley all this is filtering through into increased charges. Food is even worse as it has suffered 50%+ rises in dairy and fat input costs and meat isn't far behind plus minimum wage increases adding to labour costs. Nobody can afford to trade at a loss for very long we are only at the start of this and my take is we will see 2-3 years of recession and i only hope it doesn't turn into a depression.

 

[Magdalia]

Stimulating the domestic service industry is the only way to keep the economy going without generating inflation.

If you think about it, your publican isn't going to put up the price of food and drink just because there are more people coming through the door. The labour shortage may result in longer queues at the bar but not higher prices.

That's not correct. In the private sector the labour shortage results in higher wages and that feeds through into higher prices, alongside the higher prices of food and energy. The labour market data published by the ONS on Tuesday shows private sector wages rising at 6.9%. That feeds through into inflation.

The ways to keep the economy going without generating inflation are through maintaining and preferably increasing public sector spending, capital investment and exports, including higher public sector wages. The labour market data published by the ONS on Tuesday shows public sector wages rising at 2.7%. Higher public sector wages have a very limited first order effect on inflation because most public sector services are free at the point of delivery. There are second order effects, including impact on private sector wages, because private and public sectors are competing for the same pool of labour, but they are nowhere near as big as the direct impact on inflation of increasing private sector wages.

 

[yorksrob]

Their suppliers will be putting up prices though. In beer you have massive increase in energy costs compounded by 30%+ increases in the basic ingredients like barley all this is filtering through into increased charges. Food is even worse as it has suffered 50%+ rises in dairy and fat input costs and meat isn't far behind plus minimum wage increases adding to labour costs. Nobody can afford to trade at a loss for very long we are only at the start of this and my take is we will see 2-3 years of recession and i only hope it doesn't turn into a depression.

It keeps more value in the British economy than the alternatives. The end product is further from the point of import and therefore imported inflation forms a smaller proportion of the cost than the alternatives.

We're told that there's too much money in the system. If that's the case, it needs somewhere to go without leaking wealth abroad. Freezing economic activity here will only make the recession longer and worse.

== Doublepost prevention - post automatically merged: 15 Dec 2022 ==

That's not correct. In the private sector the labour shortage results in higher wages and that feeds through into higher prices, alongside the higher prices of food and energy. The labour market data published by the ONS on Tuesday shows private sector wages rising at 6.9%. That feeds through into inflation.

The ways to keep the economy going without generating inflation are through maintaining and preferably increasing public sector spending, capital investment and exports, including higher public sector wages. The labour market data published by the ONS on Tuesday shows public sector wages rising at 2.7%. Higher public sector wages have a very limited first order effect on inflation because most public sector services are free at the point of delivery. There are second order effects, including impact on private sector wages, because private and public sectors are competing for the same pool of labour, but they are nowhere near as big as the direct impact on inflation of increasing private sector wages.

The service industries tend to have lower wages than other parts of the private sector economy to start off with. People on low wages are a lost opportunity for generating economic activity.

I'll agree that public works are needed to stimulate the economy - it is a tried and tested method. And public services provide a way of generating economic activity where prices can be controlled (see the railway). But the economy cannot survive on public sector alone.