Low Interest Rates and the UK Economy AS Macro – Spring 2014

Limits to the Effects of A Cut in Nominal Interest Rates Commercial banks reluctant / unable to lend Low Business & Consumer Confidence Falling real incomes for savers High stock of personal debt Some interest rates have actually risen

Some of the Recent Changes to UK Monetary Policy There have been a number of important changes in the handling of monetary policy by the Bank of England in recent years Quantitative Easing (QE) 2009 – buying bonds to increase deposits and lending by the banking industry Project Merlin (2011) - agreement between banks & Government to increase lending to small/medium-sized businesses Funding for Lending Scheme (2012) – joint policy between Treasury and the BoE which provides cheaper funding to banks that increase their loans to households and businesses Forward Guidance ( ) - under forward guidance, the Bank’s policy rate will remain at 0.5% at least until unemployment falls to 7% or until there are clear signs that the amount of spare capacity in the economy has reached normal levels

Evaluation Points on Interest Rates & Monetary Policy Time lags should be considered when analyzing effects of interest rate changes Monetary policy not an exact science – consumers and businesses don’t always behave in a textbook way! Many factors affect costs and prices which can change inflation risks in a country Monetary policy does not work in isolation! Consider how fiscal policy is affecting the economy Objectives of monetary policy can change – the USA Federal Reserve’s mandate is “maximum employment, stable prices, and moderate long-term interest rates”