BOE raises Base rate to 5.5%

codetown

Gorgeous_George wrote: »

Higher interest rates are themselves inflationary.

Absolutely not. This is the whole point!!
Modern economy recognises that the more you offer in return for keeping the money still (i.e. the more interest you offer on keeping your money in a bank) the more people will keep it there and NOT SPEND IT!

Inflation is pushed up by people willing to spend (accepting also higher prices) and NOT to save.
If you have more people convinced to save more, less will go out and be willing to spend. With lower demand (and unchaged other conditions) prices have to go down! This is really basic macroeconomics and every expert agrees on this basic principle.

If you act differently you certainly are not in line with the average recognised behaviour, but be sure that most people will save more (i.e. spend less) if the interest is attractive enough!

corngoat

codetown wrote: »

As far as borrowers (mortgage mostly), they will certainly loose out as most are not on fixed rates and their costs will increase very soon.

I read somewhere recently that 60% of mortgages are fixed rate - if this is correct the BoE base rate rise will have little short term overall effect on inflation both in the shops and house prices as the squeeze will only hit at the end of the fixed rate.

ManAtHome

Problem with some of the fixed rates is they will have been taken out a few years ago and may be coming to end this year, so will be anything from 0.5% to over 1% hike in rates.

Gorgeous_George

codetown wrote: »

Absolutely not.

So, businesses will pay the higher rates and not pass the additional costs on to the customer. Workers will not demand higher salaries to fund their additional living costs.



GG

codetown

corngoat wrote: »

I read somewhere recently that 60% of mortgages are fixed rate - if this is correct the BoE base rate rise will have little short term overall effect on inflation both in the shops and house prices as the squeeze will only hit at the end of the fixed rate.

I am amazed that people on this board (who should be economically savvy) seem not to see what is really first lesson in any course of macroeconomy....
Letting aside the fact that on average the majority of mortgages along their whole life must be variable rate given how they are sold (with only a very short fixed initial period and then variable), the thing to understand is that the BOE simply starts a chain reaction which will move on its own from now on. And this reaction is in the right direction, i.e. pushing everyone to save more.

Mortgages are simply one component of your expenditure but probably the least interesting to consider when thinking about the positive effects of the raise in stopping inflation raises. In fact mortgages are in a category which we can almost define essential goods (after food of course). What will/should be immediately be hit instead is the expenditure in less essential goods, such as entertainment/holidays/luxury cars etc. The demand in those segments will be lower in coming months as a DIRECT result of this raise. In fact a lot of people directly affected by this had asked the BOE to postpone the rate rise... because they wanted to postpone the SURE effects on reduction of their businesses.

Even if you wish only to concentrate only on mortgages, consider that banks (and more and more also BSs) are in business to make money. So if they have to pay out more to savers to get their money in, they WILL HAVE to recover this cost somewhere, as their profits should generally not be affected (at least this is their goal). So either this fixed-rate mortgages are in such a small proportion not to affect much their profits, or they will have to recover the additional costs somewherelse, so someone (individuals, businesess or whoever uses the bank services) will have to pay to maintain the fixed rate mortgages at the higher cost...

Inflation is highly influenced by high demand of goods and services.
The guaranteed higher costs of banking (either direct costs for those on variable mortages or indirect costs for those on fixed mortgages) as well as the higher propension of people to save given the more attractive rates will generally cool down the demand for goods and services and reduce inflation (or at least slow down its growth!).
This is an almost guarateed effect of a rate rise, and the main reason why the BOE raises the rate in the first place!

codetown

Gorgeous_George wrote: »

So, businesses will pay the higher rates and not pass the additional costs on to the customer. Workers will not demand higher salaries to fund their additional living costs.

George once again: you confuse the illness (i.e. inflation, which is there and needs combacting) with the remedy (i.e. the base rate insrease, which is the strategy used to calm down the illness).

It is inflation which has the vicious self-spiralling effects you describe!!!!
It is inflation (higher cost of leaving) which pushes workers to demand higher salaries!

The base rate rise will DECREASE the propension to spend and will increase the willingness to save. This will have the certain effect of a reduction in demand for goods and services and the consequent reduction of the increase in prices.

Yes companies WILL have a higher cost of borrowing (and therefore of production) BUT NO, they should not pass on the higher costs onto the customers, at least not in all segments. This is because the lower demand will push them to lower (or keep still) prices just to be competitive and keep the customers. If all companies continued to raise prices, less and less people would be able to buy and the companies themselves would sell less and less, so their market would go down very rapidly. It is much more probable that the companies will have to reduce their profit margin to try and keep the market volume, which will in any case in general decrease due to the lower propension to spend and higher propension to save.

We can discuss if a .25% increase is sufficient on its own or other rises should be made in the future. But it would be stupid denying that it is a step in the right direction!!!

ManAtHome

codetown wrote: »

What will/should be immediately be hit instead is the expenditure in less essential goods, such as entertainment/holidays/luxury cars etc.

One thing I wondered (on another thread) is whether this would push inflation up as well. In the old Cheese and Plasma Index, if the Plasma component goes down this will (subject to fiddles) drop quite a lot of deflating items which are currently keeping inflation down.