No, not the European elections – the really significant news is that the Bank of England’s outgoing deputy governor, Charlie Bean, says he expects UK interest rates to rise pretty soon. He expects the official interest rate, which has been at its post-crisis ‘emergency’ rate of 0.5%, to rise in “baby steps” to around 3% between 2017 and 2019. That is below the rate of about 5% that prevailed before the financial crash, but then world conditions remain shaky, so this is where Bean expects things to settle for a while.
We have long known that all nine members of the Bank’s interest-rate-setting Monetary Policy Committee concur that interest rate rises will need to be very gradual, but there seems to be a growing mood that the process needs to start sooner rather than later if this gradualist plan is to succeed. Many economists (including me in my new book The Economics of Success) have been saying for a while that the UK economy is racing ahead too fast – reminiscent of the unsustainable credit and house-price boom that got us into our financial fix in the first place.
Any rise in interest rates, even “baby steps”, will cause problems for business and domestic borrowers. When rates are at 0.5%, even a baby step of 0.25% represents a big increase. Sure, real-world interest rates are already above this figure set by the Bank, but the point remains. There will be mortgage defaults, and some of those 40,000 zombie businesses identified by the Adam Smith Institute will fail.
That is not entirely a bad thing. Our present economic pain is the result of our cheap-credit binge of the late 1990s and early 200s. It is the hangover after the party, and sadly, a hair of the dog will not cure it, but make the inevitable reckoning worse. Boom-time assets, financial, physical and human, need to be reassigned to more productive uses. We cannot live in a fantasy economy forever.
The most pain, as usual, will be felt by taxpayers. The government does get away with paying very low rates for its borrowing – partly because in these turbulent times it is regarded as about the least-unsafe place to put your savings. Even if rates go up in baby steps, the impact on the government’s interest bill will be large. There will be more business-killing calls to “make the rich pay more”.
It all goes to show: F A Hayek was right: the best policy is not to get into boom-bust cycles in the first place.