What In The Economy Is Favouring A Low-Interest Rate Scenario?

  • Nov 17, 2019 GMT
  • Team Kalkine
What In The Economy Is Favouring A Low-Interest Rate Scenario?

In the middle of this year, Central Banks in New Zealand, India and Thailand announced very aggressive interest rate cuts following a global movement towards easing of monetary policy with the assertive interest rate cuts. Interest rates are deeply related to inflation, and growth and the decision to cut interest in the short term is majorly taken by the central banks of the countries to facilitate growth. Generally, as and when there is a fall in the interest rates in the markets, it enables a larger number of people to borrow more amount of money from banks and financial institutions. This results in the consumers having more money to spend, facilitating higher growth in the economy because of the expenditure made by the consumer, which is followed by an increase in the inflation, as prices tend to rise in the markets. In the case of increasing interest rates, the opposite happens wherein as and when there is an increase in the rates, consumers tend to save more and borrow less as returns arising from the consumer’s savings are higher. This means the consumers no more are focusing on spending. With a decrease in the personal disposable incomes being spent, it results in a situation of anti-growth, or a decline in price which leads to a situation of stagnation and deflation, ultimately leading to the slowdown of the economy.

The last few years post the 2008-09 Financial crisis, saw a lot of central banks, especially the Federal Reserve and the European Central Bank, the two that were most affected, making changes to ease the monetary policy so that a situation of growth could be spurred in the respective economics, and the consumers could gain confidence to spend more as well, so that the producers could borrow money to facilitate the supply in the market to bring the market conditions to an equilibrium.

The biggest give away from the plethora of interest rate reduction by the central banks indicated significant difficulties around the review for the economic growth which led to a constant and on the edge monetary policy action so that they could avoid getting back to a situation of recession. Central banks frequently take such actions to lower interest rates in an economic climate like this so that they can spur an increase of the money supply in the economy, pushing demand and induce support towards the growth.

What does the Bank of England recent vote on interest rates mean?

Recently, the Bank of England’s (BoE) monetary policy committee voted 7 to 2 in favour to hold the official interest rates to 0.75 per cent, which had remained constant since 2nd August 2018, when it was last changed from 0.5 per cent. A quick look at the Bank of England’s rate history (shown in the chart below) suggests how post the 2008-09 recession, the interest rates fell steeply and have never been intended to be raised considering the weak economic scenario of the country.

The British economy was moving towards the growing phase; when suddenly the uncertainty of the Brexit arrived, which led the Bank of England to tighten the screws around interest rates first in 2017 then again in 2018 to 0.75 per cent, the highest, the rates had been in around a decade.

Now with the current vote, even though it mandates that the interest rates will be held at 0.75 per cent, what it doesn’t indicate is the vote of the two outside experts of the Monetary Policy Committee (MPC), Michael Sounders and Jonathan Haskel, who voted to indicate their belief that the UK economy is on a downturn, and an immediate rate reduction will be required to support any growth and to offset any negative effects of the Brexit, if and when that happens.

The bank also published a Monetary policy report, which, for the first time included the impact of Brexit on the economy, based on the Withdrawal Deal that Prime Minister Boris Johnson made with the European Union, which reports that exiting from the European Union would lead the economy to grow at an even more, slower level. The report suggests that there were negative risks to the Monetary Policy Committee’s projections from a leaner outlook and from the fact that it underestimated the impact of the Brexit impacting the industrial as well as household spending. This resulted in the members of the committee, making an outlook that additional stimulus would be needed to assure that the target of inflation is within reach. The financial markets believe that the Bank of England would have to cut rates by 0.25 percentage points to have any chance to offset the negative impacts and volatilities in the economy that might arise post-Brexit, to reach the inflation targets that it has set.

With Bank of England reducing the interest rates to a historic low level, the spotlight is back on diverse investment opportunities. 

Amidst this, are you getting worried about these falling interest rates and wondering where to put your money?

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