It is a start and the economy is required to build on encouraging news, not potentially demolish the platform established for further prosperous economic news. The calls for interest rate upward moves are premature and would only assist in halting an already tentative economy not yet fully surfaced from a devastating economic period.
Since the destruction caused by the financial crisis, some companies have fully emerged into a profitable epoch but not all. With many small to medium sized companies paying business rates on their properties and who are still reliant on currently low interest rates, any upward move may halt their progress. Profit margins would be squeezed and the prospect of more redundancies may be inevitable even if the move in interest rates is small and gradual. Further, calls for interest rate increases only serve to fuel speculation on a strong sterling as investors look to swap their foreign currency reserves to hold sterling which yield greater returns with higher UK interest rates. If a rate increase is called, a strong pound would result in reducing demand in already waning foreign markets, particularly the euro area (an area with whom the UK’s trade totals approximately 50 per cent). UK imports may be cheaper, however, rising UK debt levels on the back of a rate increase would dampen UK demand with exports stifled as foreign businesses are required to pay more for UK goods. Indeed, an appreciation of our domestic currency would increase our already wide trade deficit and with exports becoming more expensive. A rate increase would not address this issue.
One must note that the Consumer Price Index (CPI), which measures UK inflation, has been below the 2 per cent government target in recent months. This news should not give rise to increases in interest rates. Steady increases in inflation in an economy are necessary - an indication of a competitive economy amongst other characteristics, however, increases above 2 per cent require an explanation by the Bank of England’s governor to the chancellor, be they demand or cost related. Further, the UK continues to experience high levels of personal debt, largely as a consequence of the financial crisis. With many young people starting out in their adult lives, the cost of borrowing induces a problem with the inevitable house buying where prices are already out of reach for many. Indeed, one may need to look at wage growth which has increased at an insignificant rate in the last few years, however, in real terms, many households are still worse off as a result. Household consumption is one indication of spending levels and as these statistics are still low, rate increases only serve to reduce them further.
It is important to also consider the large amount of borrowing by home owners in the period preceding the financial crisis in 2008. In this period, many home owners acquired mortgages requiring low deposits in a buoyant market. With interest rates at low levels after 2008, some borrowers sought to take advantage by increasing their borrowing on their mortgages for various reasons. In the event of rate rises in an economy emerging from recession, many may struggle with repayments. Also, unemployment needs to be reduced to pre financial crisis figures to give credence to rate rises.
In conclusion, interest rates need to be at the same levels for some time to come and should only rise in an economic environment where growth rates have increasing significantly, unemployment is reduced considerably and inflation is consistently above the government’s target. Also, business and consumer confidence needs to be significantly improved. Inevitably, the Bank of England would need to carefully analyse pressures building within the economy and act only when these pressures are likely to create a situation where debt levels are lower and spending has gathered pace. In any event, rates will rise, however, the timing of these rises are essential in continuing the UK’s recovery and growth potentials.
Dr. Victor Chukwuemeka
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