Thursday 5 February 2009

Bank of England Interest rate decision - 0.5% cut

The UK Central bank long ago lost control of monetary policy in the UK and we have been battered by the markets ever since. The pound taking a kicking and the stock market too. Even UK Gilts have lost their glean as international investors withdraw their money from the UK at record rates.

In the face of this, the Bank has decided to massively reduce interest rates, now down to 1.5%. Today another 0.5% cut is expected. I don't see this as having much effect on the real economy in the UK. It is not as if banks are going to cut the rates they charge businesses for lending in such a difficult environment. It may help to lower LIBOR - but no one cares about that anymore as no banks lend to each other anyway.

With real courage, the bank would leave the rate where it is, acknowledging that this phase of economic policy has reached its final point. The next phase is to replace bank lending to companies with direct government lending, this will stimulate the economy as is needed.

Done well it may even turn a small profit for the HM Treasury.

The bank need to wrestle back control from the markets and stop copying slavishly every US decision. Inflation is going to fall anyway, negative rates are not the answer - just look at Japan 1990-2008.
UPDATE: As predicted, they did the 0.5% cut.

19 comments:

Mark Wadsworth said...

"Done well it may even turn a small profit for the HM Treasury"???

Er ... do you have any examples of that, in the history of this country, ever?

Old BE said...

Is there a good economic (rather than political) reason not to just let the banks slowly cut their losses and build up better reserves? It seems to me that this obsession with increasing lending is just delaying the final reckoning where we just have to repay our debts and re-balance in favour of savings rather than borrowings. It might be harsh, but fundamentally the problem is that too many people borrowed recklessly, too many people lent recklesssly. No clever-dick scheme can undo that.

CityUnslicker said...

MW - nope. first time for everything. Sweden managed it with its bank bail out.
We are likely condemned to a British Leyland for finance type model in reality...

CityUnslicker said...

BE - it is perfectly reasonable to suggest we just sit it out. downside to that is a mult-year recession.
Fixing the finance strcuture would mean nationalising all the banks and sorting it out. letting some go bust and annoying the world by letting the banks default on their debts a la Lehman and Iceland.
We just are not going to do it culturally though, are we?

Old BE said...

Quite, Gordon Brown could never stand up at PMQs and say "actually, the best thing is for everyone to be sensible, sit tight and work hard to repair their own finances".

So instead of people's savings being destroyed by bank failures, people's savings will be destroyed by inflation. Instead of people learning to be more astute about the things they invest in, people will just expect the state to control and guarantee more and more.

Why does the term "moral hazard" keep shouting its way round my head?

Steven_L said...

I stopped lending my money to the bank a couple of weeks ago and lent it to Vodafone instead for 6.8%

My bond is up around 3% since I bought it and the spread has narrowed by over 50%

I'm feeling really clever now!

Anonymous said...

The rate cuts on savings means that another iceberg has calved from the glacier of the financial freeze to add to the risks of the ship of state. There are hundreds of thousands of very old pensioners in retirement developments who depend on their savings income to pay the annual service charges. These charges have been going up at three times the rate of inflation (ROI) in the last few years. Many of the pensioners also have to meet care costs, and the added costs of being old, also going up at rather more than the ROI. Worse still a few have been inveigled into Equity Release Schemes that are now in deficit. If numbers of these pensioners see a collapse in their personal finances, in very many cases there is nobody to help them and nowhere to go, the care and nursing homes are full and with waiting lists already. The prosperity of the last few years has bypassed them, and even selling their flats will be very difficult in present conditions. The government needs to work out fast what it will do if the property management service companies start evicting large numbers of disabled and terminally ill pensioners defaulting on their financial obligations. What exactly will the government do with several or more thousands of dementia sufferers on the street?

CityUnslicker said...

Gannet - great comment. Entirely accurate and this will be a huge story in the very near future. I sense another Government bail-out

asquith said...

I save money, & I've just put another deposit in my ISA today only to be told that the interest I was expecting to pick up in April has been slashed. Perhaps it was remiss of me, but I quite genuinely had no idea.

All because Damian & Donna borrowed 1000 times their joint salary to buy a house they couldn't afford & a flash car for Chardonnay's 18th.

So much for sensible conduct being a good idea, eh?

Really am quite enraged!

asquith said...

It is with Britannia. When I set up the account in August 2007 I was told it was the most sensible thing to do if I was putting steady amounts aside.

Feel like a tit now.

Richard Elliot said...

My tracker mortgage would quite appreciate another -0.5% reduction. Thankfully I don't have a collar...

Savonarola said...

Corporate bonds may well yield good returns over next 18 months but then we have a potential yield trap with the return of inflation.

Best medium term option is to buy shares in companies with decent balance sheets and sustainable divs. Within three years companies will have completed consolidation process. Those that remain will form cartels and pricing power will yield rising profits and dividends.

Wolfie said...

With the Investment Banks now moving back to more traditional instrument portfolios it would be better for all to have a more realistic interest rate rather than scraping the bottom or has the government forgotten that traditionally banks accumulated capital on the back of interest? You don’t see the ECB committing suicide so why copy the yanks?

Wolfie said...

…and another thing, this encourages depositors how?

Steven_L said...

Savonrola:

If i see interest rate rises on the horizon I'll shift from my bond into something else, it's suiting me fine at the moment.

As for companies forming cartels, why not go for utlilties, they are already yielding well and have already got us by the balls!

Old BE said...

I was glad to see a Blairite questioning this low-rate policy on Newsnight. The government seems to want banks to recapitalise with state cash rather than depositors' cash. Why?

CityUnslicker said...

Savaranola - I am not sure that is the answer. technically the FTSE could fal by 50% and dividends get slashed.

There are some co's like Aviva and BP which pay good divi that are likley to remain - but capital risk is huge.

The only thing to do right now is be prepared to switch your investments over time. The days of choosing a vehicle, be it deposits, bonds or shares is long gone. No portfolio can ignore Gold either with the risk of inflation within 12 months in the US and UK

CityUnslicker said...

Wolfie - What rate would you set? I see the ECB is pilloired for keeping EU rates at just 2%.
The market consensus is driving behaviour more than rational economic thought.

Re deposits, the government wants all money to be spent now to get us out of the recession - long-term this is just another 'put' on the day of reckoning.

Anonymous said...

The situation is similar in almost all developed countries in the world. Rate cuts rate cuts rate cuts - and the only effect is shrinking number of people who are willing to save. Risk-free investment option has never existed in the history and it still doesn't exist...
Some gold, some cheap shares with good potential, some long term care insurance if you are afraid of your retirement...But if you have kids, you know where to throw the money - excellent education recession proof - and good future for your kids means good future for YOU too! (ehm, usually...)
Regards,
Lorne, Toronto