Money News
As expected, the Bank of England's monetary policy committee (MPC) kept the base interest rate unchanged at 5%. However, the MPC remains worried about inflation and it's likely that the Governor, Mervyn King, will continue to have to write letters to Chancellor Alistair Darling explaining why inflation as measured by the Consumer Price Index (CPI) is outside the MPC's target range for a couple of months yet.
In fact last month's CPI number (3.3% - the highest since the Bank was given independence on interest rate policy in 1997) combined with bizarrely strong retail sales figures (at variance with almost every other measure of retail activity) caused the money markets to price in up to two quarter point increases in base rates before the end of the year.
However, a month is a long time in interest rate policy and interest rate expectations have been scaled back ahead of today's MPC decision. With growing evidence of the weakness of the economy on almost a daily basis, it seems that the market is now expecting base rate to remain on hold for some time to come. There remains a small chance of one 0.25% increase before the end of the year.
The news of no change interest rates will give little cheer to hard-pressed borrowers looking to remortgage. Money market swap rates, which tend to govern the deals lenders offer on fixed rate mortgages, have come down from their peak but average fixed rates are still substantially higher than when base rate was last at this level.
What's more, mortgage fees are substantially higher and lenders are applying much stricter loan-to-value criteria on their best deals, requiring much larger deposits than in the past.
What is clear is that continuing short-term inflation fears effectively preclude any reduction in the base interest rate despite the fact that, as Capital Economics puts it, "The activity news over the past month has certainly suggested that the economy is desperately in need of a boost from lower interest rates."
The prospect of interest rates being held where they are now raises the chance of a technical recession. Capital Economics says, "The activity surveys are now at levels which, in the past, would have prompted the MPC to cut interest rates by 50 basis points.
"For now, we are forecasting that rates will be cut to just 3.5% by the end of next year, which is already well below market expectations. Nonetheless, the risks to this forecast are primarily to the downside. We retain our long-held view that the longer interest rates remain at their current fairly restrictive levels, the bigger the eventual damage to the real economy will be."
Analysis by accountancy firm Pricewaterhousecoopers (PwC) chimes in with a forecast that the squeeze on the consumer will last well into 2009. "The outlook for household spending growth in the UK is looking more subdued now than at any time since the early 1990s," said John Hawksworth of PwC.
PwC is predicting that the UK economy will grow by 1.75% this year, down from 3.1% in 2007 and by only 1.25% in 2009.
10 July 2008 © Moneyextra.com
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