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Rate Setting Time Again

The MPC is set to convene this week for it’s second rate-setting meeting of the year, where the nine members will consider data from a number of sources and decide on whether to alter the base rate of interest.

Last month’s meeting saw the committee decide in a majority vote to keep the repo rates held at four and a half percent, and it looks likely that this month’s meeting will have the same outcome. With inflation seemingly on-target, the CPI (consumer price index) as it is looking on track to meet the two percent target, and the general stability in the overall UK economy, albeit slightly subdued, a cut in rates doesn’t look likely, and an increase according to all accounts is completely off the agenda.

The task of the MPC is a complex one, as there is a plethora of data for them to analyse and draw conclusions from. Judging how each of the many influences on the economy as a whole interact and how they will play out in the medium term takes a lot of work, as well as an element of guesswork.

Interest rates are a very powerful way for the Bank to control the overall economic situation, as they directly impact the relative wealth of the population. The main focus for the committee is to keep inflation in check, and they have been given a target of two percent for the consumer price index by the chancellor, if the costs of goods and services are running above this rate, then the MPC can move to increase interest rates. This has the effect of making people’s mortgages and loans more expensive, and thus they are likely to find they have less disposable income. When spending slows, retailers are forced to lower prices to try to stimulate the market, thus the CPI lowers.

Conversely to the previous scenario, if inflation is running below target, which tends to be accompanied by economic trouble in terms of profits for businesses, in particular those in the retail and manufacturing sectors, then a cut in the interest rates could be used to stimulate consumer spending, make mortgages (and therefore housing) more affordable and generally increase the amount of money going into the economy.

Of course, it is not just the consumer price index that has to be taken into consideration, and while certain factors may lean towards a rate cut, others may be opposite to this, and so it is generally a compromise. With the current financial climate, a change in rates this month would be a surprise, a rise would be a shock, and a non-change would be expected.