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This week’s interest-rate setting meeting at the Bank of England must have been a lot of fun.
In the face of pressure from both the City and the government, the Bank held interest rates at 5.75%, but felt the need to issue a statement – for only the third time in its history as an independent central bank – to clarify where it stood.
The credit crunch seems to have put paid to any prospect of rates going up to 6% in the near future, most commentators are now saying.
But of course, the MPC’s members don‘t have to raise interest rates because the market has already done it for them…
Keeping interest rates on hold at 5.75% yesterday, the Bank of England said: “It is too soon to tell how far the disruption in financial markets will impair the availability of credit to companies and households… the committee discussed these developments and other economic data in terms of their implications for the outlook for inflation.”
But meanwhile, the interest rate that really matters – the three-month interbank lending rate, which pretty much sets the true cost of money in the economy – had leaped to a nine-year high of 6.87%.
What does that mean? Well if it continues, it means the price of everything that matters to you and I and the general economy is going to rise. It’s great news for savers – banks are jacking up savings rates, and you can now easily get 6.7% on some accounts, according to Moneyfacts.co.uk.
But it’s bad news for variable rate loan holders. As former Bank of England adviser Danny Gabay tells The Telegraph: “It is not in the nature of banks to offer savings rates higher than their home loan rates. This is a precursor to higher mortgage costs.”
Why? The trouble is that more and more, banks have moved away from using customer deposits (savings) to fund their lending. Instead, they’ve been raising money in the wholesale markets. But now that costs there have jumped and rates have become far more volatile, the banks are keen to start attracting more savers so they can build up their reserves that way.
Of course, you only make money if you earn more interest from the money you lend out, than you have to pay to attract it in the first place. Hence Gabay’s point about higher home loan costs.
It’s the last thing that over-stretched British borrowers need. Nationwide building society already reckons that around 250,000 borrowers will see their mortgage costs jump by a staggering £200 a month from October.
That’s a lot of extra money for even comfortably-off people to find. Yet the reality is that most mortgagees are not particularly comfortably off at the moment. They’ve had to stretch as far as they can to get on the housing ladder in the first place, so it seems very unlikely that there’s a lot of give in the system.
So should the Bank be cutting rates then? Well, the straight answer is no. The freeze in the three-month market is basically about banks not trusting each other. That’s because they all know that they’ve all made some very stupid decisions and taken some very risky bets. It’s just that no one’s sure who’s holding the biggest bombshell. Everyone wants to hoard their money just in case they need it to repair their own balance sheets.
Let’s just stop and think about that for a moment. Big banks – big high street banks that no one in their wildest dreams would ever have thought were likely to run into financial problems – are now frightened to lend money to each other. The only reason to be scared of lending money to someone, is that you don’t think you’ll get it back. That gives you some idea of how bad the scale of these problems could be.
This is something that the banks got themselves into, and really, they have to get themselves out of it. Slashing rates now would just send the wrong signal, by penalising responsible savers in an attempt to bail out irresponsible lenders. And the last thing we want is to create a ‘BoE put’ – after all, it was the ‘Greenspan put’ (see: Who is to blame for soaring asset prices?) that got us into this mess in the first place.
Turning to the wider markets…
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In London, a late rally led by miners saw the FTSE 100 end the day at 6,313, an overall gain of 42 points. Rio Tinto was the day’s highest riser on a combination of bid talk, positive broker comment and rising metals prices. Peers Lonmin and BHP Billiton were also higher. And the firmer oil price boosted the likes of BP and BG Group. However, troubled mortgage bank Northern Rock continued its tumble yesterday, although power generator Drax was the biggest loser on falling profits. For a full market report, see: London market close.
On the Continent, the Paris CAC-40 was up 25 points – to 5,576 – at the close after a volatile session. In Frankfurt, the DAX-30 was 33 points higher, at 7,621.
Across the Atlantic, stocks rose on positive economic data. Jobless claims saw their biggest drop since April, non-farm productivity rose 2.6% and retail sales for August also showed a better-than-expected increase. The Dow Jones was up 57 points to 13,363. The S&P 500 was 6 points higher, at 1,478. And the tech-rich Nasdaq was 8 points higher, at 2,614.
In Asia, Japanese stocks fell as the stronger yen hit exporters including Toyota and Nissan, sending the Nikkei down 134 points to 16,122. In Hong Kong, meanwhile, the Hang Seng was down 21 points to 24,029 this morning.
Crude oil futures closed at their highest level since early August – $76.30 – in New York yesterday but had slipped to $76.27 this morning. And in London, Brent spot had fallen to $75.00 a barrel.
Spot gold rallied to a sixteen-month high of $697.70 in New York yesterday and was at $693.25 this morning. Silver had fallen to $12.39, having hit $12.52 yesterday.
Turrning to currencies, the pound hit a four-week high against a basket of currencies yesterday following comments accompanying the Bank of England’s interest rate decision. Sterling was at 2.0188 against the dollar this morning, having climbed as high as $2.0263 on Thursday, and was also down against the euro at 1,4757. And the dollar was at 0.7307 against the euro and 115.14 against the Japanese yen.
And in London this morning, defence stock BAE Systems jumped by as much as 4% to the top of the FTSE leaderboard following reports in The Times that it may sign a £20bn contract to deliver 72 eurofighter planes to Saudi Arabia. BAE declined to confirm the reports.
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