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It is inevitable that the Bank of England will raise interest rates sooner rather than later

We still need a recovery that relies less on consumption of imports and soaring property values

Editorial
Friday 20 June 2014 20:14 BST
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The next rise in interest rates is a little like the return of a defeated England team from a World Cup: everyone knows it is inevitable, and will happen sooner rather than later, but it is difficult to be precise about the timing. The talk is now of rates rising by the end of the year, where once next spring was thought likely. The talk is probably right.

Happily, whatever happens is very likely to be gradual – “baby steps”, as some in the Bank of England term it. There is certainly no need for a dramatic “show of strength” to whip rapidly rising prices back. The inflation figures last week were surprisingly good. Unlike in much of the eurozone, subdued inflation in this country does not threaten a true deflation. Instead, we seem to be going through an unfamiliar phase of falling inflation (pointing to a rate cut) and falling unemployment (pointing to a rate rise). It is a little bewildering.

The danger with changing rates is that the authorities leave things too long before they act. When that happens, the subsequent action needs to be that much more violent to have the same effect. As things have turned out, our long-delayed recovery is developing quite strongly, and has contributed to a property bubble in London. Strange to say, it is the type of economic recovery that we can do without; driven by renewed consumer spending and another binge in the housing market, it resembles a sort of “boomlet” version of the bubble economy that developed in the 2000s.

That type of growth is not to be encouraged, as it has nothing to do with the “rebalancing” of the economy that everyone agrees we should be working towards. The past 12 months or so have been a little reminiscent of the candy floss economy that preceded the Great Recession of 2008; plenty of new German cars and dinner-party chat about the price of a flat in up-and-coming bits of the capital. We still need a recovery that relies less on consumption of imports and soaring property values, and more on real jobs from manufacturing, technology and exports.

Largely unnoticed, the strength of sterling has also been doing some of the Bank’s work for it. As it crested the $1.70 mark earlier in the week, with some excited talk of the return of a $2 pound, it had something of the same dampening effect as a rise in rates would have, unfortunately focusing on our exports.

Other things being equal, as the Bank’s economists might say, that would make a rise in rates less urgent, and it does; but a small, almost symbolic marker of a change in attitude might not make much material difference in any case. Lest we forget, the function of interest rates is to keep inflation on target, and a marginal change should not mean the Bank “overdoes it” by pushing inflation too low, if we look at things more broadly. Taking into account house prices and rents, most people in the South of England at any rate might welcome some relief from those indubitably inflationary pressures on their cost of living.

Psychologically, and looking to the medium term, the need is for the public to get used to the idea of the bank rate returning to more normal levels. The downside is that a hike hurts hard-pressed people . Yet while the turning point is important and will make plenty of headlines, it is unlikely to wreck any household, or small business’s finances. It would, though, be a reminder that the half-decade of the half-point bank rate we have enjoyed was extraordinary – unparalleled at least since the Bank of England was founded in 1694. As with the England squad, we must accept that all good things must come to an end.

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