The single biggest mistake the Bank of England has made (in recent years) was that they failed to slash interest rates quickly enough in the wake of the global financial crisis. The Fed, on the other hand, took no time to spare. Since then global rates have only been going one way. Down. As a result of the Fed’s swift actions, the US experienced a much faster economic rebound post-crisis than the UK did. There’s a cost to acting. But there’s also a cost to not acting. And in the UK we felt the cost of the latter. All because we waited. That bit too long.
We’re now grappling with a similar problem of sorts. Thank heavens there’s no global financial crisis on our hands (now that would be the nail in our coffin!) but we do have a situation where inflation is not where it should be. Back in ’08, inflation was so low that cutting interest rates was the helping hand that our economies so urgently needed. It was the very thing that got consumers to go out and spend again.
Because if they didn’t do just that, economies had no hope of getting back onto their feet. After all, consumer spending is the air that the economy breathes. Take that away and you’ll be left with one gaping hole. Where GDP should’ve been. Luckily, the Fed was taking no chances. And the UK eventually followed, realising they had made one terrible mistake. Of not acting sooner.
A tale of inflation
But now we’ve got inflation. The highest it’s been in over a decade. Our American friends have inflation that’s as high as 6.8% while we Brits have it (only slightly milder) at 5%. Either way, we’re looking at some serious decline in our purchasing power. And we’re just not used to these sorts of price hikes. At all. Read here what you can do to stop your money from losing all this purchasing power.
Not an easy one
But central banks are now stuck between a rock and a hard place. Raise interest rates too soon and it could be a really bad move. Resulting in a major economic setback. And we really don’t need that one right now. Not with Omicron running rampant and labour shortages being stickier than we had hoped. Or, we keep interest rates where they’re at right now but we risk inflation running dangerously high. The kind that could very well get worse with this new variant which could in all likelihood further stifle supply chain shortages.
Everyone’s starting to feel the pinch. Three large British retailers (that did fantastically well during this past year): Appliances Online (ticker: AO); Boohoo (ticker: Boo) and Asos (ticker: ASC) have all sounded the alarm bells of supply chain problems. Thanks to strained supply, they can’t exactly get their stuff to consumers. Not in time anyway. And with Christmas right round the bend this isn’t going to be a good look. AO has just announced its second profit warning in less than two months. And it doesn’t look like anything’s improving.
But it could just be that all this inflation is merely transitory. That it’s all just a nasty symptom of covid and that it’ll be all over. Once covid’s over. Now, as much as this might have been the case last year, it certainly isn’t now. Covid’s sticking around. For a lot longer than anyone had thought possible. The time is gone for thinking/wishing/hoping/praying that these price hikes are fleeting. Central bankers, economists, fund managers and investors have all realised that transitory is a thing of the past. Inflation is here and it’s real. And it’s showing no signs of going anywhere.
But just the thought of raising interest rates gives central bankers stomach aches. Like that queasy feeling you get when you know you’ve eating something rotten. Things have heated up too much too soon. And the Bank of England didn’t want to run the risk of making the same mistake they had made back in ’08. They want to show themselves as a credible institution. And in this sea of confusion and worry some stability and firm action is always welcome!
So, yesterday, they announced that they would be bumping up its key interest rates from 0.1% to 0.25% in an attempt to cool down this steaming economy. Just in time for Christmas! Call it Santa’s (early) gift. Read here what rising rates mean for your finances and what you can do about it. The Fed, on the other hand, is dancing to a very different tune. After all, the stock market is their baby. They cradle it and protect it. Wanting nothing bad to touch it. Ahem, interest rates. They don’t want to risk raising them. Not too soon, anyway. Now that would just bring forward an inevitable market correction. They don’t want that on hands. No way.
We’re still yet to reach a time where high(er) interest rates are yet to hit us. 0.25% is still really, really low. But that doesn’t mean it isn’t unchartered territory for us either. We’ve had low inflation for a while. Hence the low interest rates. But now that we’ve got higher inflation and (slightly) higher interest rates, things start to look a little different.
For millions of UK households, their monthly mortgage bills will be rising as we speak. As well as their car loans and pretty much any other loan. And they’ll be feeling the pinch. Real soon. The hope is that raising these rates will desperately cool down all this spending. And if our monthly expenses rise, we’ll have less disposable income. And if we have less disposable income we’ll splurge less. And voilà, that’s how you turn down the heat.
Let’s just hope that it does the job and pops this inflation balloon already. ‘Cause 5% is high. Way too high. And as we all know, no one feels inflation’s pinch more than the poorest of society. Inflation is a nasty kind of tax. It affects those who own least assets. Whereas those who have assets (real estate, stocks, artwork, cars) find their wealth goes up. As the price of their goodies go up. Read here what the rich do to stay rich.
So, whether you’re yet to experience a rate hike or, like me, have just witnessed their first hike in three years (ah!) It’s so important to plan for every eventuality. Don’t act too late. Prepare your portfolio for all sorts of things. Since betting on one single outcome is so risky. And as we all know, nothing is ever guaranteed.
So, amidst all this uncertainty: plan for the worst but hope for the best.
Disclaimer: This blog is not investment or financial advice. It is my opinion only. This blog is not a personal recommendation to buy/sell any security, or to adopt any such investment strategy. Always do your own research before you commit to any investment.