Mark Carney Raising Interest Rates: “Oh no he isn’t” “Oh yes he is”
As pantomime season approaches, and with Christmas round the corner, inflation should increase as Santa fervently embarks on his annual shopping spree for the children of Britain. However, in both September and October inflation was -0.1pc, and on closer inspection it is hard to imagine that it would increase substantially before Christmas. Thus, it seems that the Bank of England will not raise rates this year.
Deflationary effects
With the Bank of England predicting that the
inflation rate will not rise above 1pc until the third quarter of 2016, their recent
decision to keep the Bank Rate at 0.5pc seems justified. Although an increase
in real wages relative to growth in productivity is expected, the low price of
commodities, due to waning global demand, is expected to keep inflation at low
levels.
Furthermore, the strong pound has resulted in imports becoming relatively cheaper
and exports becoming more expensive. Therefore, it seems unlikely that
aggregate demand will increase in the near future, as foreigners would find
British products more expensive, and Brits choose to import more than buy
domestically. Furthermore, cheaper imports are unlikely to increase the rate of
inflation significantly to warrant a rise in interest rates. Indeed, if China
lets its currency float then it is possible that England will be flooded with
even cheaper goods from China, contributing to deflation (more here).
The Housing Market
However, it is important to note that Halifax
has reported that house prices have
increased by 10pc in the past year and this has largely been exacerbated by
very low interest rates. Considering that inflation has been hovering at around
0pc in the past year, this is an issue that we need to look at more deeply in
order to prevent another housing bubble from forming.
However, if the Bank of England raises
interest rates, which seems highly unlikely, it is unlikely that mortgage rates would increase by the same amount, and
so it is also unlikely that this would have a major impact on people’s decision
to purchase a new property. Moreover, the increase in housing prices is not due
to the cheap cost of borrowing, but rather it is due to the increase in demand
for housing, due to population demographics (see post here). Nonetheless,
Carney has stated that monetary policy would not be tightened solely to prevent a housing bubble forming because there are other measures that could
be implemented that would be more direct and so more effective. He has
suggested that tighter lending rules
should be implemented in order to mitigate the increase in house prices.
Furthermore, should the Bank of England
increase interest rates, then this would place a greater burden on households
as their mortgage repayments would increase. This could lead to another
recession because the level of household debt in the UK is very high.
Oh no he isn't!
Thus, with falling prices due to a decrease
in global demand, and the inflation rate hovering around zero it seems highly
unlikely that the Bank of England will raise rates this year. There has been
speculation that it could adopt the Eurozone’s strategy and introduce negative
interest rates, however the situation does not seem so dire to implement such
controversial policies.
