Why the rate rises are becoming senseless.

Last week, the Bank of England (BOE) raised interest rates for the 12th time in a row to decrease inflation and reach their target of 2%. According to the ONS, inflation in April was at 10.1%, significantly higher than the BOE's target.

Interest rates are one of the tools that the central banks have with which they can control inflation. In 2020 just as COVID lockdowns were being enforced across the country. Inflation fell to 0.8 per cent, below the 2 per cent target, and the bank cut its rate to 0.10 per cent. If the inflation is too low or negative, some people may put off spending as they expect prices to fall. Although lower prices sound good, companies could fail if everybody reduces spending, and people might lose their jobs.

Currently, prices are increasing at a much faster rate than anticipated. However, the reasons behind this rapid price increase are different from the typical demand-led scenario. Despite 12 consecutive rate hikes, inflation has remained at similar levels, indicating that the traditional methods of reducing inflation are ineffective. It remains to be seen when the bank recognises its actions will only worsen the financial burden on struggling households.

According to the think tank Resolution Foundation, an estimated 3.75 million households are yet to face the impact of rising mortgage rates as they are still on cheap fixed deals. These borrowers could see their annual payments rise by £2,300 on average after the bank raised its interest rates for the 12th time—the BOE's interest rates to 4.5 per cent, the highest level in 15 years. 

Macro factors and not demand leading to price increases:

Prices are increasing due to factors beyond demand. The main macro factors leading to inflation are energy prices, influenced by the war in Ukraine, and high food prices, due to poor weather; Brexit and conflict in Ukraine, which are difficult to control with interest rate rises.

The BOE consistently misses its forecast:

The Bank of England (BOE) has regularly failed to meet its inflation predictions since the pandemic began. BOE Governor Andrew Bailey blames unpredictable global conflicts that disrupt markets for these misses. However, Ed Conway of Sky News notes that the BOE has consistently missed its inflation forecasts since 2021.

Should we trust an institution in charge of policy-making that consistently fails to meet its forecasts? According to the BOE governors, two-thirds of households have yet to experience the impact of interest rate increases on their mortgages. This, combined with rising energy costs and high food inflation, will likely cause significant hardship for many households. It's becoming increasingly difficult to comprehend the reasoning behind interest rate hikes.

700,000 UK households missed rent or mortgage payments.

Last month, around 700,000 households were unable to make mortgage or rent payments due to the increasing cost of living. This information comes from a recent survey conducted by the consumer group Which? It found that 7.3% of those surveyed missed at least one payment for housing, loans, credit cards, or bills. This equates to an estimated two million households across the country. If two-thirds of households with mortgages have yet to feel the effects of rising interest rates, this number is expected to increase significantly by the end of the year.

Energy bills have doubled since the winter of 2021-22, averaging a record £2,500 a year since October last year, while groceries inflation reached 15.7 per cent in April. These two factors have contributed to inflation proving to be so stubborn.

According to the National Farmers Union President, Minette Batters, the main reason for high food inflation is that the UK used to be a popular choice for workers due to its regulated and well-paid economy. However, since the end of freedom of movement, new visa schemes have made it costly to bring in workers from challenging parts of the world, making it unfeasible. As a result, £16 million worth of high-quality fruits and vegetables were wasted in the previous year.

The bank needs to clearly explain how raising interest rates will address the issues directly contributing to high inflation without making things worse for households. Otherwise, their credibility may be at risk. It's worth noting that interest rate hikes alone cannot control the factors that contribute to high inflation. It's the responsibility of the government to implement policies that can effectively reduce inflation.

It is government policy, rather than bank interest rate increases, that we need to control inflation.