Bank of England Decides to Keep Interest Rates in Place

The Bank of England has voted to keep interest rates at their current low levels for the time being. Only two members voted in favour of increasing the rate to 0.75%, with seven voting in favour of keeping rates at just 0.5%.

Continuing low levels of inflation were a key factor in the bank’s decision to keep rates where they are. There was, according to the bank’s minutes, a “material spread of views” on what the outlook was for inflation in the near future, and what the risks associated with interest rates were. However, even if through different reasoning, it emerged that the majority of members agreed that rates should be kept steady for the time being.

According to the minutes: “For most members, the outlook for inflation in the medium term justified maintaining the current stance of monetary policy.”

It seems that the two members who vote in favour of an increase were Martin Weale and Ian McCafferty. For many, this will not be a surprise. Weale and McCafferty have been consistently voting in favour of interest rate rises since August, and in the run-up to the meeting there was some speculation about whether they would continue this trend or not.

It was judged by the meeting that interest rates remaining lower than had been hoped for was “partly the consequence of a margin of spare capacity bearing down on domestic costs and prices.” This, according to the minutes of the meeting, created a definite possibility that expectations for inflation in the medium term would be lowered. The period for which inflation would stay low – specifically under the 2% level – could therefore be lengthened. 2% is the level of inflation which the bank currently hopes to try and maintain, and it was felt that continuing to keep interest rates down could help the situation.

October saw the annual rate of inflation rise to 1.3%, up from the previous month’s figure of 1.2% but still well below the hoped-for 2% level. Just last week, the Bank of England issued a warning that the next six months could see the rate of inflation fall as far as the 1% level.

The current interest rate of 0.5% has been in place since March 2009. The Bank has repeatedly decided against immediate increases in a hope that the low rate will facilitate recovery in the UK’s economy.

The Bank’s nine members voted unanimously on other issues, such as the decision to leave quantitative easing unchanged.

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Banks Could Face £10b Costs Over Swap Mis-Selling

11 British Banks including Barclays, Lloyds Banking Group, Santander UK and HSBC have agreed to evaluate the sales of interest rate swap products. The investigations will be supervised by the Financial Services Authority (FSA) and carried outside alongside independent auditors.

Groups representing the small businesses disadvantaged by being mis sold interest rate swaps have said tens of thousands of businesses were forced to lay off staff or shut as they struggled to pay charges on products they had been mis-lead into purchasing.

Whilst banks had set aside £730m to cover the costs of the scandal, last year, the number of cases put forward for review by the FSA have exceeded their expectations. Last week, sources within Barclays and the Royal bank of Scotland said there would be substantial increases to the money put aside for compensating businesses that were inappropriately sold financial products.

Estimates within the banks put the cost of redressing the issue at £1.5b. However, industry experts and lawyers have said banks are underestimating the cost of compensation. They have instead predicted banks may face a bill of up to £10b. Should this prove to be the case, the rate mis-selling episode would be on the same scale as the PPI scandal which cost banks over £12b. Initially banks had anticipated costs of around £3b but this quickly escalated.

The Business Secretary, Vince Cable has dismissed such claims saying that the swap rates mis-selling would not be on par with PPI.

Martin Wheatley, the man heading up the FSA investigation said that the regulator had “not ruled out” taking individual actions against individuals and institutions involved. However, he added that no decisions would be made until the reviews of around 40,000 cases dating back to September 2001 had been completed. Should the FSA fine any institutions for selling these complex financial products outside regulations, the cost of the scandal would further increase.

The final bill to the banks involved will only be clear in 12 months  – the deadline set by the FSA for all small and medium sized businesses affected to receive compensation.

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OECD Urges Bank of England to Raise Interest Rates

The Organization for Economic Co-operation and Development addressed The Bank of England to raise interest rates in order to control inflation.

Interest Rates

The Economic body said normalization will start this year in order to prevent inflation expectations from soaring. Currently inflation runs at 4% – double its 2% target.

OECD showed its support for the deficit reduction plans by the Chancellor, and believes the inflation will plummet after next year, 2012. The organization mirrored Andrew Sentance’s call to immediately start tightening policies.

The Monetary Policy Committee member is retiring in June and will be replaced by Ben Broadbent, the former Goldman Sachs economist.

On his final speech Sentance spoke of the need for a sharp change in policies, especially with the ongoing inflation that makes its impact on wage and price-setting that continues to be a threat to the economy’s recovery.

He claimed a possibility of a future “structural scarcity” on energy and commodity prices to occur, leading to further significant price hikes. He predicted prices in fuel could go up to $300 in a span of 20 years, and insisted the Monetary Policy Committee to ““stop considering commodity price moves “one-offs”.

Broadbent shares the same perspective. The former Goldman Sachs economist supports BOE in keeping rates low.

Regardless of decreasing UK growth in 2011 from 1.5% to 1.4% and from 2% to 1.7% for the next year, the international organization kept its global predictions at 4.2% and claimed recovery improving.

Secretary General Angel Gurria, only however, said “The crisis is not over yet, it has just changed its skin.”

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