Rising Interest Rates Sends the Wrong Message in These Tough Times | Philippe Inman
Anearly months of trial and error and about-face, the Bank of England has come to a halt. After a huge eight-to-one vote at a meeting last week, the Monetary Policy Committee decided the pandemic was over and now was the time to start bringing interest rates back to the levels of ‘before Covid.
The decision to become the first major central bank to raise interest rates since the Covid-19 strike in 2020 has been met with a whiff of derision in parts of the City.
It might just be a matter of pride, after the governor, chief economist and a few committee members spent months saying action was needed, but did nothing. The Bank would rather have us believe that pride has nothing to do with it and that change is a noble and coherent strategy, designed to stave off the threat of soaring prices.
But in fact, the shift to higher borrowing costs is preventing inflation – currently 5.2% and rising – from exceeding the 2% level allowed in the medium term by the Old Lady of Threadneedle Street regulation. .
Either way, and almost overnight, a policy of “risk management” that had caused rate-setters to err on the side of caution was supplanted by an aggressive stance and a rate hike.
UK households who had come to rely on the Bank to bail them out in times of trouble might understandably feel abandoned. Suddenly, he is more concerned with his own problems than with the economy at large.
UK businesses, many of which are over-leveraged and in some cases on the verge of collapse after the Omicron variant spread, must come to the same conclusion.
There is a strong case for more flexibility around the 2% rule. Inflation fell to almost zero earlier this year and the Bank considered pushing interest rates into negative territory, before pulling back. Once the Omicron variant started to spread through the population and put hospitals at risk again, that same flexibility could have applied. But no.
At the Treasury, which was with the Bank when the pandemic hit, the need to protect vulnerable businesses and households has been revised downwards, in this case through a determination to balance the books and put everything aside. excess cash flow.
Rishi Sunak has made it clear to Tory backbench MPs that he wants to maintain the UK’s debt-to-GDP ratio – the overall mountain of debt as a proportion of annual income. The Chancellor wants the ratio to stay below what he thinks is the psychologically important barrier of 100%. He also argues that any available funds should be used to cut taxes ahead of the next election, a mission that limits what will be available in the latest round of Covid support.
Again, this is not what most people want to hear. When times are tough and borrowers need large government institutions on their side, the signal must be clear that the two organizations with overall control of the money are doing all they can. Borrowers, after all, stimulate the economy with their propensity to spend.
Accusing the Bank of overreaction may seem strong as the base rate, which to some extent determines the cost of borrowing from banks and building societies, has only risen from 0.1% to 0.25%. .
Few businesses are going to stumble and collapse because their credit bill is hit by a 0.15 percentage point hike. Likewise, most mortgagees have fixed rate loans and those who don’t can probably afford to pay a few extra pounds per month. It’s not so much the increase itself, but the message it sends of a certain detachment – when corporate liquidity is depleted and countless households struggle to join the two. ends.
Even some of the most cautious economists have asked why, while wage and inflation figures are still skewed by the pandemic, the central bank would behave as if there is a cohesive economic history from which to build a new one. Monetary Policy.
To take just one example, clothing sales were disinflationary at the start of the year as prices were compared to pre-pandemic levels. Meanwhile, buying habits shifted from month to month, reversing previously reliable seasonal adjustments.
In the latest inflation figures, shoppers had reverted to old seasonal habits, with a rush to spend on Christmas, but the comparison to a year ago was with the most miserable November in recent memory. , spoiled as it was by the second lock.
The Bank wants to calm a situation it barely understands with a policy that will only depress an economy which, judging by the latest GDP figures, is already slowing to a halt. It looks like there will be more about-face to come.