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When will Interest Rates rise?

When will interest rates rise?British savers have already had to endure over four years of minimal interest rates.  Forward guidance by the Bank of England in August signalled that we would have to wait another three years for an improvement.  However, the economy recovery has since strengthened, will this affect interest rates?

The UK Office for National Statistics confirmed on 25th October that gross domestic product (GDP) grew by 0.8% between July and September.  This was the fastest growth in output since spring 2010, and follows on from 0.7% growth in the second quarter and 0.4% in the first.

The UK economy is growing at its fastest pace in three years.   All major sectors of the economy expanded.  Construction grew by 2.5%; dominant services by 0.7%, manufacturing by 0.9% and industrial production by 0.5%.

The news fuelled speculation that the Bank of England (BoE) will raise interest rates sooner than expected.    

In August, BoE governor Mark Carney said the Bank would hold rates at 0.5% until employment falls from 7.7% to 7%, projected to be in late 2016.  

The Bank has since acknowledged that unemployment is falling and the economy recovering at a faster pace than previously anticipated.  

Many analysts now say that the first rise could come a year earlier.   This is encouraging news for savers, though a rise would still be two years away.

We also need to be realistic.  In spite of the economic improvement, GDP is still 2.5% lower than the first quarter of 2008.  Some economists are also concerned about how sustainable the recovery is.  It is being hindered by consumers’ restricted spending power (wages growth is lower than inflation), the fiscal squeeze and a stagnant Eurozone.  

Monetary policy tends to favour the economy, businesses and borrowers before savers.  In August, Mr Carney said that although he had “tremendous sympathy” for savers, increasing rates was “not the answer”; he had to do what is best for the fragile economy.    

He advised: “The last thing savers want is for the UK to follow Japan by raising interest rates before recovery is secured, only to find that we are condemned to decades more of low interest rates and lost opportunities.

He had also stressed that although markets predict longer-term interest rates, what matters most is what actually happens to the bank rate – and only the BoE controls that rate.

On 24th October, the day before the economic data was released, Mr Carney seemed to pre-empt rate rise expectations when he promised that he would not rush to raise interest rates, or to withdraw emergency support for banks and businesses.  

Speaking at a Financial Times event, he said that although the recovery has begun and is strengthening, until it had gained traction the Monetary Policy Committee (MPC) would not withdraw monetary stimulus.  

The governor observed that the recovery needs to be broader to be sustainable as it is still too concentrated in the South East and the housing and financial sectors.

He pointed out that the Bank has not committed to a specific timeframe for raising interest rates.   

It is worth noting that even if unemployment falls faster than expected, the Bank is using the 7% unemployment threshold as the “staging post” for when it will reassess monetary policy and begin to think about raising interest rates.   It has not committed to actually raising rates at that point.  

Speaking in October, deputy governor Charlie Bean said the MPC would provide further guidance when unemployment is close to the 7% target.  It would analyse if there is scope to keep monetary policy loose without threatening the 2% inflation target.  If there is enough slack in the economy, they could go as far as “resetting the unemployment threshold to a new lower level”.  

There is no certain way of predicting now when interest rates will rise.  Savers also need to remember that they cannot look at interest rates in isolation.  What matters are real returns, after inflation and tax.

After the BoE implied that its interest rate would remain 0.5% into 2016, the UK group Save our Savers calculated that UK savers’ money would be worth £33.8 billion less after inflation is taken into account.  This was based on £1.2 trillion held in cash savings accounts, growing at just 1.66% a year.  

Inflation erodes the spending power of your savings slowly but surely year after year.  Over the long term it can have a significant impact, reducing the value of bank deposits by 30%, 40%, 50%, depending on your personal rate of inflation and the number of years.  
To preserve your savings you need to consider investing in assets which will protect the value of capital in real terms over the medium to longer term.  Seek professional wealth management advice on how to improve your return potential, keep pace with inflation and structure your capital to be as tax efficient as possible.
To keep in touch with the latest developments in the offshore world, check out the latest news on our website www.blevinsfranks.com

Written by Gavin Scott, Senior Partner, Blevins Franks

Blevins FranksW:www.blevinsfranks.com
E: gavin.scott@blevinsfranks.com
T: 289 350 150

 

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