Negative interest rates ‘dead before arrival’ – hope for savers but ‘no change’ expected | Personal Finance | Finance

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The Bank of England will announce the latest Bank Rate decision next week, on May 6. However, it’s been suggested that negative interest rates will be off the radar, as markets now look to the timing of interest rate hikes.

According to AJ Bell, negative interest rates could be avoided thanks to the ongoing success of the coronavirus vaccine rollout in the UK.

Laith Khalaf, financial analyst at AJ Bell, commented: “Monetary policy expectations have come a long way since the start of the year, when negative interest rates were considered a serious possibility.

“Negative rates are now dead before arrival, thanks to the successful vaccine roll-out, and the Bank’s preparations to allow for sub-zero rates by August look like a purely academic exercise.

“Since the interest rate committee last met in March, shops, cafés and restaurants have opened, and a further seven million people have received their first vaccine dose.”

As such, AJ Bell addressed the possibility of an increase to interest rates.

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“As the economy opens up, markets will increasingly ponder when the Bank of England will dare to raise rates again,” Mr Khalaf said.

“Modest expectations of tighter monetary policy have already found their way into market prices.

“The ten year gilt yield now stands at 0.8 percent, up from 0.2 percent at the beginning of the year.

“Meanwhile interest rate markets are now pricing in a 25 percent chance of a rate hike in the next 12 months, and have discounted any chance of a rate cut.

“This is the mirror image of how expectations stood at the beginning of the year, when a rate hike was out of the picture, and markets thought there was a one in four chance of a rate cut.

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“The central case still remains for base rate to stay where it is for the next year or so, but market prices can be expected to move before policy makers do.

“Positive economic momentum is all but guaranteed over the summer as the nation opens up, and that will prompt markets to fret over rate hikes.”

Despite the potential for an increase to the Bank Rate, according to the financial analyst, next week is not the time it would be announced.

However, there are some things which he suggested watching out for.

“Next Thursday, there will almost certainly be no change to interest rates, but there are two significant pieces of information to look out for,” Mr Khalaf said.

“The first is the Bank’s updated forecasts for unemployment, which will provide an indication of when they think the coast is clear for tighter monetary policy.

“When last published in February, the Bank predicted that unemployment would peak at 7.75 percent in the middle of 2021.

“Since then, the Chancellor has extended the furlough scheme, the economy has started to open up, and the ONS announced a surprise fall in the unemployment rate.

“So the macroeconomic picture has changed considerably.

“The second thing to look out for is any update on the guidelines for unwinding QE [quantitative easing].

“Preparations for negative interest rates naturally stole all the attention when they were announced in February, but at the same time, the Bank said it was going to review the process for unwinding QE.

“The present guidelines state that QE would not start to be unwound until interest rates reached around 1.5 percent.

“If the Bank decides to reduce this target, it could have a massive market impact, as the QE programme governs the fate of £875 billion of government bonds.

“A lower floor brings forward the date at which the Bank can be expected to reduce its gilt holdings, and consequently reduces the appeal of holding government bonds.

“The potentially destabilising effect on government finances will no doubt be a consideration in the Bank’s decision.

“The Treasury currently pays bank rate of 0.1 percent on gilts held in the QE programme, rather than the full coupon, collectively around 2.1 percent.

“As a result, any rise in interest rates has a big impact on the Exchequer, because so much of its debt is currently held by the Bank of England.

“In its March Budget forecasts, the OBR calculated that a one percent rise in interest rates would present the Chancellor with a bill for a further £20.8billion in debt interest in 2025/26.

“To put this figure in context, that would wipe out the extra tax collected from freezing income tax allowances, and cancel off a big chunk of the corporation tax rise too.

“A gentler unwinding of QE before interest rates start to rise might help to cushion the shock of interest rate rises on government debt.

“Then again, it might spark its own problems for the Exchequer.

“Either way, the government’s attempts to step back from QE will probably look like a cat trying to extract its head from the cream jug.”





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