Interest Rates: A Warning

This blog has always been firmly of the view that interest rates should have started to rise slowly long ago.  Leaving them  at a dysfunctional emergency low of .25% for years and long after the acute emergency which led to their reduction to the lowest level in history, has been a mistake. It means that interest rates have been factored out of the financial package, both as a lever of control for the authorities and a means of income for savers. This has led to investment in both shares and property pushing asset values to levels which will require correction; a process of excess valuation stoked by quantitative easing and government ‘help to buy’ interventions. Unfortunately these corrections when they come always end in tears.

There is now another issue. Interest rates have been off the radar for so long, nobody is sure how the whole system will react when they start to move. It may not be a gentle process. Private sector pay, for long stagnant, is now growing at 3.5% pa. It would be folly to suppose that interest rates can stay far behind for long. The Bank of England’s assertion that 2.5% is the maximum to expect and then only slowly could turn out to be too optimistic. At the moment inflation is held in check by falling oil and commodity prices because of falling demand in China. But allowing this benefit to be used as an excuse to hold down interest rates below a functional level could be expensive in the long run.