Bank rate to ‘stay frozen’ for 5 years

David Smith

Interest rates in Britain are to stay low for years to compensate for a severe fiscal squeeze on the economy, a report to be published this week says.

The Centre for Economics and Business Research, in its latest UK Prospects, to be published tomorrow, predicts that Bank rate will remain at 0.5% until 2011 and not reach 2% until 2014.

It also expects further quantitative easing by the Bank of England on top of the £175 billion so far announced, and says that the programme of asset sales will not start to be rolled back until 2014 at the earliest.

Its forecast is based on the assumption that an incoming government will announce £100 billion of fiscal tightening, split between £20 billion of tax rises and £80 billion of spending cuts, over the lifetime of the next parliament.

With this fiscal tightening putting a brake on growth, the Bank will be obliged to keep interest rates down, the CEBR argues.

“We are likely to see an exciting policy mix, with the fiscal policy lever pulled right back while the monetary lever is fast forward,” said Doug McWilliams, chief executive of the CEBR and one of the report’s authors. “Our analysis says that this ought to work. If it does so, we are likely to see a re-rating of equities and property, which in turn, should stimulate economic growth after a lag.”

The forecast implies a good outlook for the stock market and house prices, but could put further downward pressure on sterling.

Charles Davis, a senior CEBR economist and co-author of the report, said the main risk was a rise in inflation from higher commodity prices, which could force the Bank’s hand.

Inflation figures this week should show a drop from 1.6% to 1.2%, which City economists expect to be the low point. Higher Vat at the turn of the year is likely to push inflation temporarily above the official target. Unemployment figures will also be released this week.

+ Profit warnings fell to a six-year low in the third quarter, Ernst & Young, the accountant, said. There were 52 warnings from quoted UK companies, a year-on-year drop of 53%, and 17% less than in the second quarter.

Ernst & Young said, however, that the decline did not mean the worst was over. “This dramatic fall is due to a complex mixture of previously withdrawn company guidance, already depressed market expectations and an improving economic outlook that has encouraged companies to look ahead with greater confidence, with the worst of the downturn seemingly past,” said Keith McGregor, restructuring partner at Ernst & Young.

“Nevertheless, confidence should not turn to complacency. The one-off effects of monetary and fiscal stimulus, and inventory rebuilding have put a gloss on current demand that could soon tarnish once this support is withdrawn.” (David Smith, The Sunday Times) http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article6869403.ece

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