Interest rate cut almost certain, but will it work? - HL comment
Ben Brettell, Senior Economist, Hargreaves Lansdown:
It looks almost certain we will see the first change in UK interest rates in over seven years this week.
Overnight Index Swap markets now show a 98.1% chance of a rate cut on Thursday – though it’s worth noting that markets been wrong-footed by the Bank of England before. The MPC’s decision had looked a bit more finely balanced, but since arch-hawk Martin Weale publically backed further stimulus last week a 25bps reduction has looked inevitable.
It’s easy to see why a rate cut is on the table. Today’s manufacturing PMI figures are the latest illustration that Brexit has delivered a confidence shock. However, it’s still early days in terms of hard data. Surveys are driven by sentiment, and can therefore overreact. The dramatic fall in confidence may not ultimately be borne out by activity, and there is a case for a wait-and-see approach to monetary policy.
Whether lower interest rates will work is also a moot point.
In many ways by talking about a rate cut the Bank has already achieved much of the intended effect, with the cost of borrowing (bond yields) falling across the board. However it’s difficult to see a cut moving the dial too far in the real economy. Money is already cheap, and while lower rates will reduce borrowing costs slightly, they aren’t going to significantly alter corporate or consumer behaviour.
For the past seven years savers, institutions, fund managers and economists have believed a rate rise is just around the corner. After all, 0.5% was termed an ‘emergency’ rate back in 2009. Yet savers’ hopes have been continually dashed, and this week could prove to be the final nail in the coffin. I believe interest rates easily could stay where they are for five to ten years – and a return to ‘normal’ pre-crisis levels is impossible to foresee over any reasonable timeframe. With bond yields also flat on their back, and property suffering its own problems, the only game left in town is the stock market, though a long-term view is essential.
Savers are basically being forced up the risk spectrum by monetary policy, particularly those who are seeking an income. Money always flows somewhere, and it looks likely its destination for the foreseeable future will be equities.
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