End Of The Road For Rate Rises?

The Bank of England has once again made waves by raising interest rates for the 12th consecutive time, reaching an impressive 4.5%.

Some might find this level staggering, although I've heard my fair share of stories from older generations reminiscing about the days of double-digit mortgage rates. While the Bank of England justifies these increases as a means to tackle rising prices, I can't help but suspect that there are other factors at play.

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The Bank of England's motivation seems to be more focused on safeguarding the pound's value and as they follow the US Federal Reserve decisions step by step. It's a strategic move to avoid making the currency less attractive to foreign investors, especially when other countries are following suit with rate hikes.

This dynamic creates a delicate balance between the central bank's independence and the government's desire to maintain favourable mortgage rates, especially in the lead-up to a general election.

The Bank’s independence is on solid ground while Rishi Sunak is in power, but it was only recently Liz Truss was talking of curbing its powers.

While these interest rate hikes undoubtedly bring higher costs for variable and tracker mortgages, they offer a glimmer of hope for savers who can anticipate improved returns on their investments.

In fact, some banks and building societies are now offering interest rates as high as 5% or more, making it an enticing prospect for many savers.

I would however urge savers to make hay while the sun shines and mortgage owners to hunker down with the tin hat and get through it as I can’t see interest rates remaining at these relatively high levels indefinitely.

Don’t Expect This To Last

Short-term expectation is that we may be nearing the peak in both inflation and interest rates. Market indicators suggest a downward trend in the future.

You can see what the markets think in these graphs below.

Source: (Left) Bloomberg, BLS, Eurostat, ONS, J.P. Morgan Asset Management. Source: (Right) Bloomberg, J.P. Morgan Asset Management.

While inflation is expected to decrease over time, it doesn't necessarily mean that prices will go down. The cost increases we've experienced are now baked into the system.

What about the longer term?

The future trajectory of interest rates is likely to witness a downward trend over the long term, driven by several factors.

One significant factor is the changing dynamics of the UK's baby boomer generation, born between 1946 and 1964.

As this generation ages, many are reaching retirement and making lifestyle adjustments such as moving into retirement communities or downsizing their homes.

Consequently, a substantial amount of wealth held by baby boomers is being deposited into savings accounts, as they prioritise the safety and stability of these accounts over riskier investment options.

The increased accumulation of cash in deposit accounts has a notable impact on the demand for loans and mortgages. With a reduced need for borrowing, lenders face a decline in demand, leading to a natural decrease in interest rates.

This phenomenon is further amplified by the prevailing economic climate, characterised by low long-term expected inflation and sluggish economic growth.

In Summary

Continuing to raise interest rates primarily to protect the pound's value, rather than solely addressing inflation concerns, is not a sustainable approach in the long term.

Higher borrowing costs can deter business investments and consumer spending, potentially leading to lower economic growth, reduced tax revenues, and even job losses.

We need the economy back on track for the long term, especially as we now need to stand on our own two feet. Significantly lower interest rates are the only way forward.