Bank of England paves the way for negative rates

bank of england image
  • Banks put on six month standby for negative rates
  • The Bank of England says this isn’t a signal of future policy
  • It’s unlikely savers would see negative rates passed on, unless they’ve got lots of cash in the bank
  • £225 billion currently sits in accounts paying zero interest – expect that to balloon if rates turn negative
  • The Bank won’t know how the economy is really doing until Q4 2021 at the earliest

Laith Khalaf, financial analyst at AJ Bell:

“The Bank of England is asking the market to watch its feet and not its eyes, as it looks to add negative interest rates into its toolkit, but says this isn’t a signal of future policy. Commercial banks need at least six months to prepare for negative rates and the central bank has now put them on notice, potentially paving the way for negative interest rates from August. Irrespective of what the Bank of England says, it’s likely markets will take this as a negative sign for longer term UK interest rate policy, even if it is designed simply to cover all bases as the pandemic continues to elevate economic uncertainty.

“While the Banks’ numbers show things are going to get worse before they get better, the pace of the vaccine roll-out does provide cause for optimism. Whenever it comes, the gradual lifting of social restrictions will inevitably boost economic activity from a very low base. But after the initial euphoria of a release from lockdown, the Bank may have to loosen the taps of monetary policy once again, if it feels economic momentum is slipping.

“Negative interest rates are still not a done deal though. The default position for the Bank now is to sit on its hands, unless there is a clear and present need for more monetary stimulus. Until the dust of the pandemic has cleared and government support measures are withdrawn, it’s hard for the Bank, or anyone else for that matter, to determine what state the economy is really in. We know that the first quarter of this year will see an economic contraction and as things stand right now, the second and third quarters will see growth as the economy opens up. It won’t therefore be until the fourth quarter at the earliest that we get a view of what the post-pandemic economy properly looks like. This leaves the central bank playing a waiting game in 2021.

“Experience of negative rates in other countries suggests that even if rates turn negative, most banks wouldn’t charge high street customers to hold money in their accounts, mainly because you can always take cash out of the bank and stuff it in a mattress. Those with higher balances would be most at risk, because a bank account provides security that is hard to replicate without financial cost. Negative base rate would likely lead to an explosion in the number of bank accounts paying zero interest, which currently house around £225 billion of savers’ cash. While savers might not explicitly pay interest to their bank, it’s possible banks would introduce fees instead, something HSBC said it’s looking at in some markets.

“Whether we get negative rates or not, the outlook for cash savers is a continuation of rates at rock bottom levels. With inflation expected to rise this year, that’s really going to bite into the buying power of cash held in the bank.”

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