Savers are staring down the barrel of another lost decade after the coronavirus crisis led the Bank of England to slash rates to 0.1 per cent, writes This is Money editor Simon Lambert.
They have already witnessed ten years of paltry returns on their cash in the wake of the financial crisis and are forecast to face many more years of he same.
Why did the Bank of England cut rates?
Two swift and brutal cuts in the space of less than a fortnight took the base rate down from an already lowly 0.75 per cent to 0.1 per cent.
The base rate, or Bank Rate to use the official name, is the benchmark interest rate of the Bank of England.
It is the rate that the Bank of England pays to commercial banks that hold money with it and heavily influences the rates at which those banks are willing to lend or pay interest.
The Bank’s Monetary Policy Committee uses the rate to target inflation of 2 per cent and ‘support the Government’s other economic aims for growth and employment’.
Cutting Bank Rate lowers the cost of borrowing money for people and businesses and theoretically this should increase the demand for it – stimulating the economy.
As the coronavirus crisis hit and Britain faced lockdown and all but paused the consumer economy, a big cut was deemed necessary.
Even after the financial crisis the bank of England base rate was only cut to 0.5%. It then dropped to 0.25% after the Brexit vote, before briefly climbing and then being slashed to a new record low of 0.1% to combat the coronavirus crash
How low had base rate fallen before this?
During the financial crisis, the base rate was cut to an historic low of 0.5 per cent, in March 2009.
As the credit crunch arrived in 2007, the rate stood at 5.75 per cent.
In 2009, there were expectations that the emergency cut to 0.5 per cent would not be long-lasting and rates would get back to a new normal of about 3 per cent.
That never happened and base rate was cut from 0.5 per cent to 0.25 per cent, after the Brexit vote in August 2016.
Base rate finally rose back to 0.5 per cent in November 2017 and climbed to 0.75 per cent in August 2018.
How long will rates stay this low?
The immense economic hit from coronavirus was outlined by the Bank of England recently when it said it expected a 14 per cent drop in GDP this year and the worst recession since 1706.
The Government has massively expanded its borrowing and spending for coronavirus rescue plans for individuals and businesses and is funding this with an emergency overdraft from the Bank of England and the sale of UK government bonds, known as gilts.
In a sign of the pessimism of the economy and how long rates will stay low, investors bought UK bonds at a negative yield in a gilt auction yesterday.
The Bank of England has also delivered a further round of Quantitative Easing, dubbed money-printing, to the tune of £200billion.
All of this points to savers facing many more years of low returns, as base rate is held down to help the economy and banks get cheap funding from the Bank of England, reducing their need for savings deposits.
The ONS revealed yesterday that the inflation rate had crashed to just 0.8% in April
Could inflation return and rates rise?
At the moment, the coronavirus crash and lockdowns are deflationary and the UK’s consumer prices inflation figure dived from 1.5 per cent in March to 0.8 per cent in April.
The Bank of England sees the hit to the economy as being so bad that cutting rates, doing an extra £200 billion round of quantitative easing and the Government handing out money to individuals, through furlough schemes, and businesses, through grants and emergency loans, will not be inflationary.
Some economist and analysts argue, however, that because this involves a wave of money that goes directly into the economy, rather than into the financial system as it did after the financial crisis, it could lead to an inflation spike.
If inflation does return, the Bank is likely to go easy on it and be reluctant to raise rates quickly.
Britain’s big mortgages and sizeable personal debt pile mean that rising rates would spell problems for people’s finances, while low rates and a bit of inflation suit the Government as they would slowly erode away the value of the UK’s debt.