Britain is on the cusp of a rise in interest rates because the economy has significantly recovered since rates were slashed to record lows of 0.5% in March 2009.
Now, a second member of the Bank of England’s rate setting panel — the Monetary Policy Committee — has come out this week to warn that interest rates will rise “pretty soon.”
He added that when rates start to rise, they will eventually rest around a “new normal” of 2.5% to 3%.
“I don’t think it’s anything to worry about, it’s a sign of health,” said Professor David Miles on BBC’s Newsnight programme. “Within the UK economy consumer confidence is strong, corporate confidence is pretty strong and the financial system is operating near normal now.”
However, he didn’t say a month or year for when rates are likely to rise. He said that a hike would depend on economic data.
Low interest rates stimulates the economy because it reduces the cost of borrowing. In other words, it helps those in debt to make repayments and boosts the amount of money in people’s pockets. This was necessary when the economy was being hit by the credit crisis on 2007/2008.
However, the UK economy has expanded since then and latest data from the Office for National Statistics shows that the UK economy was 2.6% larger in the second quarter (April to June) in 2015, compared to the same quarter a year ago. It also revised up its forecasts for the expansion of the British economy this year.
For this reason, another member of the MPC, Kristin Forbes, warned that the central bank must hike rates soon or face damaging the progress Britain has made over the last few years.
“An increase in interest rates is generally believed to take somewhere from one to two years to have its maximum impact. Maintaining interest rates at the current low levels during an expansion risks creating distortions,” said Forbes, a member of the 9-strong rate setting Monetary Policy Committee, in a column for the Telegraph newspaper.
“Therefore, interest rates will need to be increased well before inflation hits our 2% target. Waiting too long would risk undermining the recovery — especially if interest rates then need to be increased faster than the gradual path which we expect. But with inflation starting from about zero today, there is no need to act before we are confident that inflation is heading back toward 2% within about two years as expected.”