Over the last 5 months the Bank of England have raised interest rates from 4.5% to 5%, with monthly increases of 0.25% in August and November. Compared with the low of 3.5% during the summer or 2003, many people are starting to feel the pinch as mortgage and credit card repayments increase, and are worried about further increases.
If you’d read the BBC article on house prices yesterday you may be forgiven for thinking that 5% is as high as interest rates are going to go, and the only direction from here is down. Wishful thinking that may be for many, but unfortunately it’s unlikely that 5% will be the peak.
The financial futures markets have already priced in an increase of 0.25% in February, with another 0.25% rise a distinct possibility later in the year, and you only have to look around you to see why:
- CPI (inflation excluding housing costs) is 2.7%, above the 2.5% target, and trending up.
- RPI (inflation including housing costs) is 3.9%, and even then many people do not feel this reflects true inflation (how much has your council tax and energy bills increased by this year?.)
- Mortgage lending is still at record levels, suggesting that the two interest rate rises this year have not quelled the public’s appetite for long-term debt.
The high RPI also means that workers will be demanding larger pay rises. Local government unions are already demanding 5% (compared with the 2% promised by Gordon Brown) and unions and workers in the private sector are likely to follow, putting more pressure on inflation.
I expect interest rates to be at least 5.5% by the end of 2007. We’ve been enjoying exceptionally low interest rates for the last 5 years and it’s easy to imagine that they’ll stay at this level for ever. This is especially true of first time buyers who have never experienced high rates. It’s only 10 years ago that rates were at 6.75%, and even that would have seemed low compared to the 15% in 1989. With the record level of mortgage debt the worry is that anything over 5.5 - 6% will see a huge increase in the number of homes repossessed.
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