James Daley: Cutting interest rates is not the answer
Saturday 10 January 2009
Not so long ago, a 0.5 percentage point cut in the official Bank of England interest rate would have been a cause for celebration for most people in Britain. Although, admittedly, rate cuts do tend to translate into a reduction in savings rates, most of us in property-mad Britain have much bigger mortgages than we do savings. Hence, a cut in interest rates tends to deliver us much bigger reductions on our mortgages than it costs us in lost interest on our savings.
Over the past few months, however, the traditional rules simply have not applied. As interest rates were cut by another 0.5 percentage points to all-time lows on Thursday, only the minority of borrowers (those with existing tracker mortgages) had anything to smile about. For the majority – those who are still on fixed rate deals, like me – the rate cuts of the past three months have meant nothing.
In years gone by, rate cuts would have fed through to those on fixed-rate deals, by ensuring that lower rates were on offer when those borrowers remortgaged. Over recent months the cost of new borrowing has stayed high – regardless of how much the Bank of England has cut its base rate – meaning that when those of us with fixed rates come to the end of our current deals, we'll struggle to find a new mortgage that is not more expensive.
Meanwhile, the hit to our savings rates is palpable. Since October, the Bank of England rate has been cut from 5 to 1.5 per cent – and most banks have been quick to pass these cuts on to savings customers. I'm now receiving just 2.25 per cent on my HSBC savings accounts, which doesn't even keep pace with inflation.
All this leaves me wondering why the Bank of England bothered to cut rates at all this week. While historically, rate cuts were an effective way of giving a shot in the arm to the economy, that's not the case as long as banks are unable to cut the cost of new mortgages. I'll concede that the recent cuts have been great news for the third of mortgage holders who have tracker deals. However, there's little evidence that this extra cash is being spent on the high street. Instead, I suspect many of those with lower mortgage payments have been using the spare money to pay down their debts quicker, or to bolster their savings.
Meanwhile, the sharp rate cuts have had other negative side effects. For example, annuity rates have fallen, meaning pensioners have been forced to accept a worse deal on their retirement income. Sterling has also collapsed since September – meaning travel for Brits abroad is prohibitively expensive.
Stimulating the economy is now a task that is out of the Bank of England's reach – but if it persists with an agenda of further rate cuts, then it can still cause hardship for British savers, pensioners and travellers.
The Government is now the only party with the power to turn the economy around – and now is the time to act. Helping to increase liquidity for the banks, investing in job creation and cutting taxes where necessary are all measures that can help. One thing is for sure – relying on the Bank to save the economy with rate cuts is no longer an option.
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