History tells us that UK interest rates will rise and rise

Hours after the Bank of England raised its main interest rate to 1% in May and warned that there would be more to come, mortgage lenders began to withdraw some of the extremely low rates that they offered.

Twitter was alive with people bragging about getting a 1.2% five-year deal days earlier. Overnight rates nearly doubled as financial markets believed the central bank would increase its main interest rate to 2.5% in one year.

Even 2.5% will still be a very low rate. Since the establishment of the Bank of England in 1694, its bank rate (under various names) has been 2.5% or less for only about a sixth of the time it has existed. This was mainly due to the 2% emergency rate that started with World War II and ended more than a decade later. Almost everything else happened in the last 13 years after the banking crisis, when it was below 1%.

My own calculations show that the BoE’s official rate has averaged 4.66% daily since the bank’s inception. Omitting the last particular years, this increases slightly to 4.83%.

My current bedtime reading is A history of interest rates by Sidney Homer and Richard Sulla. He explains that in 1694 the new Bank of England set its first rate at 6%, chosen to match the maximum allowed for private lending under the Usury Act of 1660. This rate was reduced to 5% in 1714 and the bank rate followed it there. for 100 years.

Throughout Queen Victoria’s reign (1837-1901), money was lent at 5% and government borrowed at 3% – despite the uncertainty created by frequent wars and the occasional bank crash. This safe and guaranteed return on the “consols” – the funds as they were called – supported the incomes of aristocrats and the growing wealthy middle classes.

For most of the 19th century, inflation remained relatively stable and wages doubled. The poor were allowed to get richer, although the rate of growth was relatively slow.

Thus, the 2.5% discount rate forecast by the market for 2023 would be barely half the typical rate over most of the BoE’s 328 years. If the economy returns to what used to be normal, we should expect a discount rate of 4% or 5%. This can only make the loan more expensive, which would also be normal.

Homer and Sylla also go back much further, revealing that the maximum rates allowed in Mesopotamia from 3000 to 400 BCE were between 20 and 33⅓%. These are not bank rates, of course, but the actual interest charged to individuals when they borrow money to buy cash or grain.

Our banks lend today like the Mesopotamians – the average credit card rate in April was 26.6% (annual percentage rate), according to the financial website Moneyfacts. This is five times a rate that would have been prohibited until the usury laws were repealed in 1854. Even the Romans prohibited loans at rates above 12%. In Renaissance Europe, where the modern bank was invented, money was lent at between 10 and 15%.

Never in the last 5,000 years have rates been as low as 1% – until February 2009. In 2012, when the bank rate was 0.5%, the BoE ensured that low rates were passed on to borrowers by lending money to retail banks at 0.75 percent. cent through the loan financing program.

Four years later, the Term Funding Scheme lent £192 billion to banks and others at just 0.25%, the same discount rate at the time. Banks have dutifully cut mortgage rates, leading buyers to borrow recently at rates starting with 1. They have also cut rates on savings, which are only just beginning to show the first signs of recovery.

All of this is being halted by inflation which is now 11.1%, 9% or 7.8% depending on what one believes of the three main measures (yes, there are many more than this) published by the Office for National Statistics.

Unlike Victoria’s reign, where prices at the end of her reign were lower than at the start, Elizabeth II’s 70 years on the throne saw prices rise in every year but one by an average of 5.14%. The Monetary Policy Committee (MPC) was established in 1997 to keep inflation at 2.5%, as measured by the retail non-mortgage interest price index (RPIX) – later changed to 2% as measured by the CPI.

Since its first meeting in June 1997, the nine-member MPC has solemnly sat down every six weeks to discuss whether to raise or cut rates, then – regardless of the direction of the vote – deciding almost every time that a quarter of a percentage point would be enough. Over these 25 years, CPI inflation has averaged 2.0%. Work done.

This was partly due to a new leverage given to the MPC called quantitative easing (QE). This mechanism magically extracted thin electrons from money and, in just over 10 years, created £895 billion which was used almost exclusively to buy back public debt. During this decade, the MPC invented the one thing most politicians tell us doesn’t exist, becoming the Money Tree Policy Committee.

Whatever QE has done to economic activity – it was supposed to increase it, but in March this year growth was minus 0.1% after being flat in February – the impression of so much virtual money has inevitably spurred inflation.

Now, as inflation takes off, the only way the BoE can try to control it is to raise the discount rate. And the cost of the money lent to us can only go one way – up, up and, probably, up.

Paul Lewis presents ‘Money Box’ on BBC Radio 4, broadcast just after midday on Saturdays, and has been a freelance financial journalist since 1987. Twitter: @paullewismoney

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