So another rate cut by the Bank of England to the lowest ever in its 315 year history; quite something!

The next couple of years will tell us whether these cuts will work or not, but it does seem in the short-term to be counter productive.  Retail banks are not lowering their mortgage rates because the LIBOR rate is too high, and the lowering of interest rates greatly affects savers at the very time when the government is asking us to save more!  Therefore it is questionable as to who it helps in the short term.  VAT has been reduced, but on the typical item of clothing, say at £30, this is hardly putting money back in people’s pockets.

There are even suggestions that the government will have to “expand the money supply”, which to you and me is printing more money and potential inflation.  If this happens, the question that follows is who gets this new printed money?  It’s our old friends the banks of course.  The government will buy assets in the banks in exchange for newly printed money.  However, I am pretty sure that was what happened in the recent bank bailout, no?

Ultimately, there may well be a shift in consciousness here.  We have been living in a false economy for some time built on credit that doesn’t seem to exist.  “Where has all the money gone” seems an apt question right now.  With debt levels so high, the money supply may have naturally contracted with the increasing payments people need to make.  The only action that may be logically left for the government is to increase the money supply to make up for the shortfall.  However, we are walking into an inflation minefield, the one the current Prime Minster said would never happen again.

I believe we need a mentality shift away from credit, and until drastic action is taken, such as cancelling large percentages of debt, the current problems may well persist.

The Bank of England have announced another cut in interest rates to their lowest levels since 1951, it is great to see some top level action but how will this help and is it the best we can do?

Firstly, lowering interest rates should have a positive effect for homeowners, cutting their monthly repayments and putting “money back in their pockets”.  It is also possible that lower interest rates will mean more purchases of homes with the better deals that could be available.  This is assuming of course that the lenders pass these cuts on and improve lending conditions.

However, the burning question must be: are we tackling the cause of the problem or handling the effects?  Ultimately, the major problem as I see it is the level of personal debt, not just with mortgages but credit cards.  Consumers who are “maxed out” on credit cards and just about covering their monthly commitments will not be able to increase spending on the back of numerous interest rate cuts.  Banks will not feel more assured to lend to consumers, or businesses, if the current debt has not been reduced.

The government, to its credit, has started discussing mortgage holidays until economic conditions improve.  This is a start but a start only.  If the government really wishes to stimulate spending, then the only way will be to create in the first instance, credit card debt holidays, and ultimately a cancelling of a % of credit card debt to increase consumption.  Many will argue that borrowers got themselves into this state and therefore should get themselves out of it alone.  However, with banks being granted bailouts, why shouldn’t this program be expanded to include a consumer bailout?

It goes against the capitalist mindset, but the financial precedent has been set.  Only once personal debt has been reduced will banks feel more secure in lending, spending will then increase and the economy can return to a period of growth.  Whether credit card companies feel the same way is another matter…

Sunshine on a rainy day?

Well, the Bank of England has announced an interest rate cut, the size of which has not been seen since 1981.

The BOE has cut rates from 4.5% down to 3%, following the emergency cut last month which saw the rates fall from 5% to 4.5%, but today’s rate cut is by far the clearest sign that the UK is heading into a long recession.

The one and a half percentage cut has come as a major shock to many people, but as inflation could possibly be looking to fall below its target, the move has been seen as many as a necessity to keep the country stable during the difficult times ahead.

The Bank Of England released this statement :

” The Bank of England’s Monetary Policy Committee today voted to reduce the official Bank Rate paid on commercial bank reserves by 1.5 percentage points to 3%.

The past two months have seen a substantial downward shift in the prospects for inflation in the United Kingdom. There has been a very marked deterioration in the outlook for economic activity at home and abroad. Moreover, commodity prices have fallen sharply.

Since mid-September, the global banking system has experienced its most serious disruption for almost a century. While the measures taken on bank capital, funding and liquidity in several countries, including our own, have begun to ease the situation, the availability of credit to households and businesses is likely to remain restricted for some time. As a consequence, money and credit conditions have tightened sharply. Equity prices have fallen substantially in many countries.

In the United Kingdom, output fell sharply in the third quarter. Business surveys and reports by the Bank’s regional Agents point to continued severe contraction in the near term. Consumer spending has faltered in the face of a squeeze on household budgets and tighter credit. Residential investment has fallen sharply and the prospects for business investment have weakened. Economic conditions have also deteriorated in the UK’s main export markets.

CPI inflation rose to 5.2% in September. The substantial rise since the beginning of the year largely reflects the impact of higher energy and food prices. But commodity prices have fallen sharply since mid-summer, with oil prices down by more than a half. Inflation should consequently soon drop back sharply, as the contribution from retail energy and food prices declines, notwithstanding the fall in sterling. Pay growth has remained subdued. And measures of inflation expectations have fallen back.

Since the beginning of the year, the Committee has set Bank Rate to balance two risks to the inflation outlook. The downside risk was that a sharp slowdown in the economy, associated with weak real income growth and the tightening in the supply of credit, pulled inflation materially below the target. The upside risk was that above-target inflation persisted for a sustained period because of elevated inflation expectations. In recent weeks, the risks to inflation have shifted decisively to the downside. As a consequence, the Committee has revised down its projected outlook for inflation which, at prevailing market interest rates, contains a substantial risk of undershooting the inflation target. At its November meeting, the Committee therefore judged that a significant reduction in Bank Rate was necessary now in order to meet the 2% target for CPI inflation in the medium term, and accordingly lowered Bank Rate by 1.5 percentage points to 3.0%.

The Committee’s latest inflation and output projections will appear in the Inflation Report to be published on Wednesday 12 November.

The minutes of the meeting will be published at 9.30am on Wednesday 19 November.”