The drumroll started months ago. This morning the Bank of England has announced that Bank Rates will rise to 0.75%.
The vote was unanimous. All nine members of the Monetary Policy Committee (MPC) decided that interest rates need to go up to ensure inflation is kept under control.
Which is interesting, because there’s not much compelling evidence that Britain has an immediate inflation problem.
It is the Bank of England’s job to keep prices stable. Prices are rising faster than the Bank’s target rate of 2% but inflation is actually slightly lower than the Bank was forecasting in May, pay growth has decelerated and the oil price has moderated.
But the Bank spies potential trouble ahead. Both the number of people in work in Britain and the number of job vacancies have risen to record highs. Businesses report recruitment problems, the government has removed the cap on public sector pay.
The Bank is already forecasting annual pay growth to hit 3.5% by 2020 and doesn’t want to see it racing away.
An interest rate rise of 0.25% is, of course, modest. It should help protect the value of money in the bank but it will also make mortgage debt in particular more expensive to service.
Three and a half million households in the UK have “variable” mortgage repayments, they will feel the impact of this change immediately.
Last week the Office for National Statistics published analysis which concluded that the average British household had seen its outgoings exceed income for the first time in 30 years.
According to the ONS, the poorest 20% of homes are the most over-extended.
The Bank doesn’t offer any analysis as to how this interest rate rise will be felt at street level beyond the view that “household balance sheets” (as the Bank puts it) are in better shape than before the financial crisis and therefore “more resilient to shocks”.
The debt charity Stepchange says it is seeing an increasing number of people on low incomes who are trapped in persistent debt. At the margins this interest rate rise will cause further financial distress.
Interest rates have been stuck at “emergency” levels since March 2009 when the financial crisis was in full swing. Mark Carney maintains that cutting Bank Rate to a record low levels almost certainly avoided mass unemployment and debt deflation. Holding it there for almost a decade has also created an strong incentive to borrow rather than save.
The era of cheap money is coming gradually to an end. The direction of travel is clear. The Bank has repeatedly signalled to businesses and households that interest rates are likely to continue to rise “gradually” and “to a limited extent”.
Before the financial crisis Bank Rate averaged 5%. The Bank believes the post-crisis new “equilibrium” interest rate is probably between 2 to 3% in the long run. The global population has aged, productivity growth has declined - there’s more savings and a lower demand for capital. The message is that we’re not going back to where we were. Or at least, that’s the assumption. This is not a promise.
The Bank’s forecasts for economic growth (steady but unheroic) and inflation (slowly falling back towards target over three years) are strikingly similar to its view of the world in May.
What could possibly go wrong? The most obvious threat to our prosperity remains Brexit. The Bank has said before that Britain’s departure from the European Union need not be an economic disaster. It assumes a smooth, orderly transition.
“No deal” is surely unlikely but it is possible. There would be an economic cost and it would almost certainly have an impact on interest rates.