UK U-turns set to offer interest rate relief? - InterestRate.co.uk
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UK U-turns set to offer interest rate relief?

Chancellor Jeremy Hunt reversing many of Prime Minister Liz Truss’s planned tax cuts could offer interest rate relief to businesses and consumers. However, in what many see as short-term pain for long-term gain, a complete revamp of policy could push the UK into a deeper recession than first thought. While there are no winners in a recession, this will do much of the Bank of England’s work in fighting inflation.

Cost of living crisis to continue

While financial assistance will still be available to those most affected, the government’s energy price cap commitment has been reduced from two years to six months. Planned tax cuts have also been canceled, and previous plans to increase corporation tax will now go ahead. This will reduce consumer spending and business investment, eventually dragging inflation down to more manageable levels. The sharp about-turn by Hunt, after only a few days in office, has also caused economists to review their short to medium-term outlook on the UK economy.

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living crisis

More changes in interest rate expectations

A couple of weeks ago, the consensus was that UK base rates would peak at 3% by the end of 2023. Then expectations changed after the disastrous mini-budget and subsequent drop in the pound’s value. There was a belief that base rates would hit 6% by the end of 2023 before falling back. However, in light of Hunt’s arrival at the Treasury and ongoing changes to previous announcements, economists have reined in their interest rate expectations.

UK interest rates are expected to peak at circa 5.25% by the end of 2023. However, this is still a significant increase from the current 2.25%. There is also a growing belief that rates will not rise by 1% at the November MPC meeting but increase by a more modest 0.75%. Many economists are holding back on their December MPC meeting expectations before the publication of the government’s budget and OBR assessment, due on 31 October.

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Is the future more straightforward for the Bank of England?

Many will argue that Hunt’s much tighter fiscal approach will encourage a natural reduction in consumer spending. Under normal circumstances, this would reduce the challenges facing the Bank of England. However, we are not in normal times!

straightforward

The farther UK base rates fall behind their US counterpart, the more attractive the dollar will look to investors. This could prompt further downward pressure on the sterling, stoking new inflationary pressures, and making imports more expensive. While the Bank of England had a difficult time under the stewardship of Mark Carney, recent action has restored the bank’s reputation to a certain extent. The ability and willingness to act independently of the UK government during recent challenges have been well-received by markets.

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How will this impact consumers and businesses?

On the one hand, with base rates set to peak at a more modest 5.25%, this will limit increases in the cost of mortgages and general debt. On the other hand, however, a much tighter fiscal package will remove various financial support elements from businesses and consumers. This will directly impact consumer spending, eventually leading to a reduction in inflation.

While there is still the problem of high energy costs due to the war in Ukraine, this is not something the UK government can directly control. So even though Hunt is undoing some of the government’s mistakes of recent weeks, there is still a lot to think about!