Bank of England asks banks to cut interest rates
The Bank of England has told UK banks they should take whatever steps are necessary to prepare their systems for negative interest rates, paving the way for the central bank to use this additional policy tool to encourage more lending .
But policymakers warned Thursday that they are not trying to send the signal that rates will be cut to zero or lower imminent. Markets reacted accordingly: Sterling and bond yields rose as traders lowered expectations of a future rate cut.
The central bank’s monetary policy committee kept interest rates at 0.1% and continued its asset purchase program at the same pace.
For months there has been a debate over whether the Bank of England could introduce negative interest rates as another mechanism to support the economy. A negative interest rate would mean making banks pay for liquidity storage at the central bank, a policy that would influence other interest rates in the economy, for example on loans to businesses and households. In theory, lowering these rates would encourage more borrowing and investment.
The European Central Bank and the central bank of Japan have had negative interest rates for several years, but there has been questions on the effectiveness of this move would be in the UK banking system. Among them were concerns that the policy would hurt UK savers or that banks could take steps to protect their profitability that would decrease the effectiveness of the policy, such as raising fees and other rates or reducing lending.
However, some decision-makers, including Silvana Tenreyro, a member of the monetary policy committee, said he believed negative interest rates would boost economic growth and bring inflation closer to the bank’s targets.
After consulting with banks on whether it would be possible to cut rates further, the central bank found that most companies would need to make changes to their systems and processes. On Thursday, he called on banks to start making these changes.
“Although the committee made it clear that it did not wish to send any signal that it intended to set a negative discount rate at some point in the future, overall it concluded that” it would be appropriate to start preparations to provide the capacity to do so if needed in the future ”, the the minutes of the February monetary policy meeting indicated. Banks should be prepared “to be prepared to apply a negative discount rate at any time after six months.”
The central bank also updated its forecast on Thursday for the UK economy, which is trying to emerge from a deep recession and also faces the first impacts of Brexit, its divorce from the European Union’s single market and the Customs Union. He said the economy had not suffered as much at the end of 2020 as expected, but that there would be a slowdown in the first quarter of 2021 due to the long lockdown while the vaccinations roll out.
Gross domestic product is now expected to fall 4.2% in the first three months of the year. This is a downward revision from forecasts in November, when the central bank forecast growth of more than 2%.
But the economy is still expected to return to its pre-pandemic size in early 2022, with consumers spending heavily once pandemic restrictions are lifted. British households accumulated more than 125 billion pounds ($ 171 billion) of additional savings from March to November last year, and the central bank expects at least 5% of that savings to be spent over the next few years, a conservative estimate.
“With the accumulated savings expected to be released later this year by consumers looking to make up for lost time, the likelihood of negative rates being implemented in the UK this year is diminishing,” wrote Hugh Gimber, strategist at JPMorgan Asset Management. in a note.
He added, however, that the central bank “has an eye on their options to guard against the next blow to the UK economy, whenever it might happen”.