The Bank of England uses interest rate reductions to stimulate the economy if spending is weak and increases interest rates if they feel the economy is overheating.
The current problem the bank has is that current interest rates are at an all time low. At the most recent base rate meeting on 4 February 2021, the Bank of England decided to keep the base rate at 0.1%.
Which raises an interesting and perplexing conundrum. If the UK economy refuses to rise to the challenge and demand remains weak as we attempt an unsteady withdrawal from lockdown, any reduction in the bank rate from 0.1% will likely be less than zero. Blithely called a negative interest rate.
Positive interest rates mean that savers receive interest on savings deposited with their bank and pay interest on loans from their bank.
Logically, negative interest mean that the opposite will apply; savers have to pay their bank to deposit money and the banks pay individuals and businesses for money on loan from the bank.
This means that lenders receive an income for borrowing and savers will see their savings diminished.
Clearly, this will not sit comfortably with cash rich companies and individuals and we could expect savers to seek off-shore havens for their savings – where positive interest rates still apply – to protect its value.
Let us hope that this scenario, a movement into negative rates, does not apply in practice. The present evidence suggests that consumers are in a spending mood after many months of “house arrest” due to COVID restrictions. In which case, supply side considerations may stimulate price increases and inflation.
And as many readers will appreciate, if inflation becomes a problem, one of the monetary policy changes frequently used to slow down price increases is to increase, not decrease interest rates.