There is good reason to believe that a Bank of England rate increase is not too far away
Current Affairs

The impending boost of a BOE rates increase

Something is brewing at the Bank of England, and, more specifically, within its Monetary Policy Committee (MPC). After seven years of voting unanimously (bar a brief disagreement in 2011) to keep base rates on the floor, the MPC agreed to cut these to a new record low of 0.25 per cent last August.

Yet in the months since, we’ve seen the economy largely hold up better than expected following the Brexit vote, and, more recently, a surge in inflation. It prompted a surprising break from unanimity last Thursday, as three MPC hawks put their hands up for an increase to 0.5 per cent. The 5-3 split vote did, however, exclude Mark Carney, and the Governor poured cold water on the prospect of a monetary policy tightening in his Mansion House speech on Tuesday.

However, the pound rallied on Wednesday, as one of the Committee’s more-dovish members, Andy Haldane, said that "a partial withdrawal of the additional policy insurance the MPC put in place last year would be prudent relatively soon," during a speech in Bradford.

Why we can be confident of an imminent increase

Although it must be pointed out that one hawk, Kristin Forbes, has now left the MPC, there are sound economic reasons for believing that the central bank will tighten their belt sooner rather than later. In 2011, the last time there was notable dissent within the ranks, the unemployment rate stood at 8 per cent. Today, it has plummeted to just 4.6 per cent, suggesting that Britain has either reached, or is approaching, full employment.

Signs already exist that the supply of labour from Europe has diminished since the Brexit vote, and, should that trend continue, wages will increase too. This, in turn, will exert further inflationary pressures, which, until now, have largely been fuelled by a depreciation of sterling over the past 12 months. Needless to say, spiralling inflation will force the Bank to act at some point.

There is another inflation-related reason why we can expect an increase too. Across the Atlantic, the Federal Reserve once again voted to lift short-term interest rates – the third consecutive quarter in which they have tightened policy. Given that the US is our biggest single trading partner, failing to follow suit would simply result in further imported inflation.

And then there are the ramifications from an unsettled political landscape, following the Election result. The Conservative Government was forced to ditch some key money-saving manifesto pledges from the Queen’s Speech, and with increased pressure to invest in public services, a spike in spending now appears inevitable. With fiscal policy set to become the new driver of output, rather than so-called quantitative easing, we could well see interest rates tighten significantly to pick up the slack. Not only would this represent a reversal of the current austerity/loose monetary policy combination, but it would also finally give savers a ray of light after years of unrelenting dark clouds.

Bank of England rates and peer-to-peer lending

Many will have noticed that, following the rate cut last August, returns offered by peer-to-peer lending platforms in the UK have generally followed suit. It is, however, important to note that monetary policy decisions actually have no direct bearing on how a platform such as ours sets the base rates from which we determine lender returns.

That said, the inevitable knock-on effect of last year’s rate cut was that the market for loans became increasingly competitive, and, in order to maintain the equilibrium between the demand for Lending Works loans and the supply of lender capital, there has invariably been downward pressure on returns.

It is thus left to individual platforms to find other ways to redress this balance, and, for Lending Works, this has meant numerous initiatives and partnerships to unlock new channels from which to originate prime loans. These have already started to bear fruit, as has been demonstrated by the recent surge in our 5-year lender return (an increase of 0.4 per cent in just two weeks). The month of June continues to be a strong one for loan growth too, so there is good reason to believe the gap between returns and inflation will continue to widen.

And, should Carney and Co. decide that the time is right for monetary policy tightening in the near future, then that really would be the icing on the cake for our lenders!

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Michael Todt

Mike joined Lending Works in early 2015 with a background in marketing and journalism. Having long held a passion for economics, he is now the chief contributor to the Lending Works blog, and regularly writes about all things peer-to-peer lending, fintech and personal finance.