Entries Tagged 'interest rates' ↓
June 5th, 2008 — interest rates
Readers Question: How Does MPC set interest rates.
Yesterday, the nine members of the MPC voted to keep base interest rates unchanged at 5%. What explains their decisions to change rates?
The MPC have an inflation target of CPI 2% +/- 1 set by the Government. Therefore, predictions of future inflation are the most important factor in determining interest rates.
To predict inflation trends they can look at several things.
- Economic growth compared to the long run trend rate of growth. If growth is above long run trend rate, then Aggregate Demand will be increasing faster than Aggregate Supply and this causes demand pull inflation. If growth is forecast to rise above a ’sustainable rate’ the MPC are likely to increase interest rates. At the moment, growth is slowing down, demand pull inflation is relatively subdued
- Cost push inflation. Rising oil prices and food prices cause cost push inflation. This is the real problem at the moment. Rising oil prices are causing rising transport prices, rising energy prices and increasing food prices. In fact, it is argue that CPI underestimates the real inflation because CPI exclude some of these factors. Cost push inflation is more problematic because cost push factors will be causing slower growth. To reduce inflation the MPC needs to cut interest rates. But, this will make the slowing economy even worse. Therefore, there is a trade off, the MPC can reduce cost push inflation but, it will be at the cost of rising unemployment and slower growth. Continue reading →
June 5th, 2008 — interest rates
The median forecast for interest rates in the UK, is to remain unchanged by the end of 2008, despite a slowing economy and collapsing housing market
Basically, the MPC face a dilemma. Their main target is low inflation (2%). However, rising oil prices are pushing up inflation above the target. Therefore, in theory they should be thinking about raising interest rates to prevent inflation getting into the system. However, although inflation is rising, the economy is slowing. Slower growth is because of:
- Falling house prices
- Lack of consumer confidence
- Rise in living costs reducing disposable income
- Credit crisis reducing availability of credit
Because the economy is slowing there is pressure on the MPC to cut rates to prevent a recession. Yet, the MPC don’t want to cut interest rates because they are worried about rising inflation.
Interest rate decisions may depend on which they think most important - preventing inflation or preventing recession. - It may be that the MPC give a higher priority to low inflation.
Any prediction about interest rates needs to be filled with caveats about other potential outcomes. This is a blog post entitled - Difficulties with predicting interest rates
Factors Influencing interest rates in 2008 / 2009
- CPI Inflation is close to the government’s upper target of 3%. There has been a rise in cost push inflationary pressures - for example, oil, food and energy prices. This rise in ‘core inflation’ has made the MPC reluctant to cut rates. In fact many argue that the real inflation rate is higher than the official figure. People feel prices are rising much more than the official statistic of CPI = 3%. This is partly because the CPI ignores volatile energy prices and some housing costs.
- Real interest rates are relatively high. Real interest rates are (Nominal interest rates - inflation) = 5% - 3% = 2%. Therefore although interest rates are relatively low by historical standards, real interest rates are not. Therefore, there is scope for a small % cut and still there will be some tightening of monetary policy.
- Sub Prime Mortgage Crisis - The effects of the mortgage sub prime crisis are being increasingly felt in the UK. The shortage of mortgage credit. The main effect of the sub prime mortgage problems are to make mortgage lenders less willing to give risky loans. It has also affected consumer confidence. The effect of these two factors are to reduce house price growth and consumer spending. This reduces inflationary pressures and makes it easier to enable interest rate cuts.
Continue reading →
February 7th, 2008 — interest rates, uk housing market
As expected, the Bank of England cut the base rate by 25 basis points to 5.25%. This cut had been widely expected, and the only question was whether it would be a cut of 25 points or 50 points.
The reason for the base rate cut was
- Slowing demand in both the UK and global economy
- Falling house prices in the past 3 months
- Decline in consumer confidence
- Growing levels of personal debt.
Prospects for Interest Rates in the rest of 2008
Despite the rate cut, there may not be too many more cuts this year. The Bank point to the fact that the economy is still expanding, there is only a relatively minor fall in consumer confidence. Furthermore, inflationary pressures are not completely subdued. Rising energy prices and food prices are pushing up cost push inflation.
Continue reading →
January 23rd, 2008 — interest rates, uk housing market
Amidst all the gloom surrounding the UK housing market it is worth putting current difficulties into a historical perspective.
Graph Showing Mortgage Interest Rates in UK
In 2008, Interest Rates are currently at 5.5% and most predictions are for UK interest rates to fall.
The lowest interest rates in the UK were reached a couple of years ago when the base rate fell to 3.5%, since then the MPC have increased interest rates because of the improved UK growth. (The strong performance of the UK economy is illustrated by the significant fall in unemployment.) Continue reading →
December 28th, 2007 — interest rates
A few months back I looked at the prospects for interest rates in the UK. Since then market conditions have increased the likelyhood of lower rates - With some commentators suggesting that base rates could fall to 4%. Whilst a 1.5% fall would represent a significant loosening of monetary policy, the prediction is based on recent signs of weakness in the economy and, particularly, in the housing market.
Outlook for Interest Rates in UK 2008
Mortgage Approvals falls by 40%.
Recent evidence from the British Bankers Association (BBA) shows that mortgage approvals is 40% down on this time last year (44,831 in November). This shows the nervousness of banks in lending and also people’s reluctance to take out mortgages against prospects of falling UK house Prices.
House Price Falling
There are different measures of house price inflation in the UK. However, they all seem to be converging on a new trend for lower house prices. Data from November, by the Nationwide show that house prices fell by 0.5% - this has caused the annual house price inflation to fall to 4.8%. Falling house prices will almost certainly reduce consumer confidence and consumer spending. (link - house price fall at telegraph)
Continue reading →
December 6th, 2007 — interest rates
With growing signs of falling UK consumer confidence, the Bank moved to cut interest rates by 0.25% from 5.75% to 5.5%. However, it is uncertain whether the interest rate cut will actually be passed onto homeowners. Due to the credit crunch, there is a real problem of a shortage of funds for mortgages. For example, Standard Life recently increased its standard variable rate, independently of the Bank of England’s base rate.
If banks do pass on the base rate cut to consumers it could see the cost of a £150,000 mortgage fall by £24 a month.
However, with house prices falling for the third month in succession, there are hopes and predictions that interest rates will continue to fall in 2008. (interest rate predictions 2008)
As long as inflation does not rise (due to say rising oil prices) the weakening of the retail sector should leave scope for interest rate cuts in the new year.
Interest rate cuts may also lead to a weaker value of the Pound in 2008.
November 16th, 2007 — interest rates
Despite inflation surging over the 2% target for the first time since June, the Bank of England indicated that 2008 is likely to see 3 cuts in interest rates. This will bring rates down to 5%.
The rise in the CPI inflation rate from 1.8% to 2.1% is primarily due to rising food and fuel costs. With oil approaching $100 a barrel and shortages of food pushing up prices, it was inevitable that this would cause some cost push inflation.
However, apart from the temporary cost push factors there are some signs of a growing weakness in the economy.
- Firstly, there is growing evidence of a slowdown in the UK Housing Market
- Retail sales have slowed down. Data releases yesterday showed an unexpected fall in sales in October of 0.1%. Consumer spending has previously been the strongest element of the UK economy.
- In their inflation report, the Bank of England have forecast inflation will fall back to 2% in 2009. This enables more room for a cut in interest rates
- Continued turbulence in the global capital markets. There are concerns the problems of Northern Rock may be repeated to other banks, possibly Barclays - which has a large exposure to the sub prime market. - It recently announced a £1.7 billion loss in this regard
November 15th, 2007 — interest rates
Mortgage interest payments are the biggest outgoing for most families. With a recent downturn in the economy, many households are struggling to meet their mortgage interest payments (especially those with a sub prime balloon mortgage)
If you find yourself in this situation there are a few things you can do to reduce your mortgage interest payments.
1. Speak to Your mortgage Lender and ask for a reduction
This may sound a little too good to be true. However, you would be surprised how many mortgage companies would actually like to help you keep paying your mortgage. It is in their interest to prevent you defaulting on your mortgage. If they have to repossess your house, they will lose considerably. Many big mortgage companies are already considering re negotiating mortgage deals to prevent defaulting. It is not guaranteed to work, but, for the time involved it is definitely worth trying.
2. Remortgaging.
Remortgaging to get the best deal is an essential part of having a mortgage. The monthly savings can be significant. The only problem is that some mortgage deals tie you in for a certain time frame. However, when the time frame ends, make sure you are ready to switch to the best mortgage deal.
Continue reading →
November 15th, 2007 — interest rates
Mortgages are paid back over a period of 25-50 years. Monthly mortgage repayments depend upon the interest rate charged by the bank building society. Homeowners choose between variable interest rates and fixed interest rate mortgages.
Variable mortgage interest rates.
Most mortgages in the UK have a variable mortgage interest rate. This means that the interest rate on the mortgage depend on the base rate, set by the MPC. If the base rate increases by 0.5% the rate charged on your mortgage will increase by a similar rate.
Therefore, every month, many homeowners anxiously await news from the Bank of England when they decide on the base rate.
How Does Bank of England Set Interest Rates?
The Bank of England is actually not primarily concerned with the housing market and homeowners. The government has given the Bank just one objective - an inflation target of CPI = 2% +/-1 Therefore, the Bank of England will seek to keep inflation within this rate, even if it means hardship for mortgage owners.
Continue reading →
October 26th, 2007 — interest rates
UK interest rates are currently 5.75%. A few months ago, may forecast that interest rates would soon rise to 6% and possibly higher. However, recent events suggest that interest rates may have peaked already, and in the coming months interest rates could fall due to lower inflationary pressure.
Reasons why interest rates are predicted to be lower.
- House Prices Overvalued. An IMF report suggested that house prices in the UK are 40% overvalued. This does not necessarily mean a crash in imminent, but, it does mean there is the prospect for a slowdown and possible fall in house prices in 2008. A fall in house prices would reduce consumer confidence and consumer spending. This would reduce inflationary pressure and enable interest rates to be cut, without inflation going above target. - See why house prices are set to fall.
- Potential of future Credit Crisis. In this blog post, I posted how the Bank of England feels there is still the prospect for a serious financial crisis. This uncertainty could cause a slowdown in the economy and require lower interest rates to deal with it.
- Slowdown in global growth. With recession looming in the US, this could result in slower global growth and therefore, inflation will be lower. However, it is worth noting that the US economy is less significant for affecting global growth than it used to be.
Fixed Rate Mortgage interest rate predictions
At the moment, I feel fixed rate mortgage deals are a little expensive. They are based on interest rates remaining around 5.75%. If interest rates do fall in 2008, there will start to be much better fixed rate deals.
Sub Prime Mortgage rate predictions
Unfortunately, although base rates have stayed the same, the actual cost of sub prime mortgages has increased. This is because there is an increased risk associated with sub-prime mortgages.
