Rate Hike but Brexit Threats Remain
The Bank of England has voted to raise UK interest rates from 0.25% to 0.5%, for the first time in more than a decade. The Bank had cut the rate to 0.25% in August 2016 as an attempt to help the economy in light of the Brexit vote and its ensuing repercussions.
Only two members of the Monetary Policy Committee (MPC), Sir Jon Cunliffe and Sir Dave Ramsden, voted to keep the interest rates unchanged.
The pound dropped after Mark Carney’s dovish comments regarding the economy, Brexit uncertainty, and the possibility of interest rates rising gradually in the next three years. Carney said that the Bank’s forecasts are based on two more rate hikes over the next three years so that inflation gets back to target and the economy runs smoothly. The Bank explained that “If the economy were to follow a path broadly consistent with the August Inflation Report central projection, then monetary policy could need to be tightened by a somewhat greater extent over the forecast than the path implied by the yield curve underlying the August Report.”
The BoE warned that Britain’s decision to leave the European Union created “uncertainties” which have reinforced a considerable slowdown of the economy: “The overshoot of inflation throughout the forecast predominantly reflects the effects on import prices of the referendum-related fall in sterling. Uncertainties associated with Brexit are weighing on domestic activity, which has slowed even as global growth has risen significantly. And Brexit-related constraints on investment and labour supply appear to be reinforcing the marked slowdown that has been increasingly evident in recent years in the rate at which the economy can grow without generating inflationary pressures.”
But while markets have priced in the hike and everyone has been expecting it, this doesn’t mean, however, that the news is positive for everyone. It might be considered breaking news for markets, but such news might break the bank for others who are struggling financially. The TUC General Secretary Frances O’ Grady said that the BoE’s decision wasn’t a wise one because: “This is the last thing hard-pressed families need. With living standards falling, the economy needs boosting not reining in. Today’s hike is a hammer blow for those in problem debt, whose repayments will now rise. The Bank of England has made the wrong call – but the government must not hide behind it. Working people are paying the price for ministers’ failure to get wages rising. And for their failure to invest in jobs and services when interest rates were so low.”
Chief economist at KPMG UK, Yael Selfin, also pointed out that the news was bad for credit card holders too, who have never seen an interest rate hike before: “Long suffering savers will rejoice in today’s news of a first rise in UK interest rates in over a decade, but banks and insurers should also beware of the potential impact on their liabilities as their customers feel the strain. Consumers are already under pressure from falling real wages and the rise in consumer debt. So even a mild and gradual course of rate rises is likely to make a bigger impact this time.”
Mark Carney Press Conference
As previously, Carney reiterated that these “are not normal times” and that Brexit’s consequences will be manifold: from the movement of goods, services, people and capital to real household incomes.
Carney explained that UK households were ready and “well positioned” to deal with an interest rate hike. Since rate hikes will be gradual and limited, and monetary policy will continue supporting the economy and keep unemployment low, households will be able to respond to the new rate: “Fully 60% of mortgages are now at fixed interest rates. Even with this Bank Rate increase, many households will re-finance onto lower interest rates than they are currently paying by around 30 basis points for those moving from an expiring two-year fixed rate deal to around two percentage points for someone refinancing an expiring five-year fixed rates deal.”
By raising rates, Carney argued that inflation will be kept down, protecting consumers from their dropping real wages. He said: “To be clear, even after today’s rate increase, monetary policy will provide significant support to jobs and activity. And the MPC continues to expect that any future increases in interest rates would be at a gradual pace and to a limited extent.”
Carney announced that he expects real wages to rise in 2018 and UK inflation rate to fall, helping to reduce the cost of living. Pay rises which are currently 2.1% will also increase in 2018 as productivity goes up. However, wage growth will be below historical averages in around 2019-20.
Brexit remains the biggest factor of volatility; it has increased Britain’s productivity problems since uncertainty has kept businesses from making any new investments. However, Carney suggested that the Bank will reassess its position and rethink its forecasts if a Brexit deal is reached. On a lighter note, when he was asked what he thought about Boris Johnson and Jacob Rees-Mogg, who called him an enemy of Brexit, Carney spoke like a true politician. Choosing not to “personalise” criticism and “ignoring the last part of the question,” Carney sent a clear message to the people of the United Kingdom: “that the Bank of England is doing its job...... to bring inflation sustainably back to target while supporting jobs and activity.”
But the pound has yet to recover. It continues to be falling, marking its biggest one day fall against the euro in 13 months.