Bank of England hints at further interest rate cuts

Group Business Editor

Thursday 19 July 2012

MONETARY Policy Committee members plan to review the case for cutting UK base rates even further, from the record low of 0.5% at which they have stood since March 2009, when the effects of the new "Funding for Lending Scheme" become clearer.

REVIEW: The Bank of England could cut interest rates further depending on the impact of the Funding for Lending Scheme. Picture: Getty Images

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ian mcconnell

This plan to reconsider the position is revealed in minutes of the Bank of England committee's July 4 and 5 meeting. The minutes highlight members' views that such a review is "unlikely to be for several months".

While noting that the MPC judged two weeks ago that a further rate cut "continued to have drawbacks", the minutes state: "The impact of the FLS [Funding for Lending Scheme] and other policy initiatives might, in time, alter the committee's assessment of the effectiveness of such a rate reduction."Such a cut would benefit many people who have mortgages, or other loans, on which the interest rate is tied contractually to base rate. In terms of other lending, the impact of any such further base rate reduction on borrowing costs would depend on whether banks passed on a cut to customers.The minutes also show that two members of the nine-strong MPC, Bank of England chief economist Spencer Dale and external member Ben Broadbent, opposed the move to increase the committee's quantitative easing programme two weeks ago. Their seven colleagues won the day with their vote to increase QE, which is aimed at stimulating economic activity by boosting money supply through the purchase of Government and corporate bonds using central bank reserves, by £50 billion to £375bn.MPC members discussed the option of hiking QE by £75bn, as opposed to £50bn, minutes of the July meeting show. This fuelled some economists' belief that further QE is likely later in the year if the recession-hit UK economy continues to struggle, amid swingeing public spending cuts.The £80bn FLS, a joint Bank of England and UK Government scheme, will offer funding to banks which is significantly cheaper than that available in the market, together with embedded financial incentives to encourage them to increase lending above that already planned. The minutes note the arguments for and against cutting base rates from 0.5% were "the same as before".Minutes of the June meeting noted that, in March 2009, the MPC had judged that a cut in Bank Rate below 0.5% could have "counter-productive consequences, in particular constraining some banks' and building societies' ability to lend". The June minutes stated: "Lenders were, in practice, unable to reduce deposit rates below zero. But they had assets – primarily mortgages – with interest payments contractually linked to Bank Rate. "Consequently, a reduction of Bank Rate below 0.5% might squeeze some lenders' interest margins to such an extent that they became even less able to extend new credit."Reflecting on the revelation in minutes of the July meeting that MPC members stood ready to review the case for cutting rates further when the FLS impact became clear, Vicky Redwood, chief UK economist at consultancy Capital Economics, said: "Members signalled that a rate cut was still possible. The minutes said 'the impact of the FLS and other policy initiatives might, in time, alter the committee's assessment of the effectiveness of such a rate reduction'."The MPC didn't elaborate further. But we presume it meant that, if take-up of the FLS is high, the resulting reduction in banks' funding costs reduces the chances of a cut in Bank Rate denting banks' profitability."She added: "Admittedly, the committee said it would only be able to judge this once the impact of the Funding for Lending scheme had become apparent, which could take 'several months'."A rate cut therefore doesn't look imminent. But we expect QE to be extended further once the current £50bn of purchases are completed in November."

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Bank of England hints at further interest rate cuts

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