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Looking at the year with interest
Page 20
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How will higher interest rates in 2007 affect inflation, the UK economy — and road transport?
Truck industry management consultant Kelvin Briggs reports.
The Monetary Policy Committee (MPC) of the Bank of England raised the bank base interest rate from 4.75% to 5% in November 2006. It was the second rise in three months after the decision in August to increase the rate from 4.5%. It is clear that the MPC intends to ratchet rates upwards until the housing market loses some more momentum. The impact of this strategy or the haulage sector and other, less resilient, sectors of the economy could be considerable.
Continued firm economic growth plus a sharp pick-up in inflation over the final months of 2006 were two reasons for the base rate ending the year at 5%. The prediction for 2007 is an early-year rate rise followed by a 'steady-as-she-goes' interval until November when an improving inflation outlook should allow the base rate to fall back to 4.75%.
The forecast for the Consumer Price Index (CPI) —the measure of inflation—in 2007 is for a gradual fall in the annual rate as the impact of higher oil, utility and other price increases drop out of the annual comparison. By the end of 2007 the CPI is expected to be close to target. The MPC seems relatively relaxed over the current rise in inflation; it expects it to be a temporary blip.
A greater danger Is that higher inflation will increase general expectations about future inflation and could become reflected In pay settlements and higher business margins.
The government-targeted CPI remains a key input in pay negotiations and rising mortgage rates seem likely to push the Retail Price Index (RPI) to around 4% in the early months of 2007. The predicted fall in inflation during 2007 assumes there will be no significant rise in pay inflation.
A key domestic risk for the UK economy is that the rise in inflation at the end of 2006 and early 2007 will occur just before the majority of pay settlements are negotiated. The fear of rising wage inflation is a continuing theme of MPC meetings and, if it becomes a reality, would almost certainly imply interest rates moving further above 5% during 2007.
Domestic risks continue to centre on consumer spending and the housing market. Consumer spending has been erratic over recent months with strong growth towards the end of 2005, weak growth during 2006 and year-end blues given the continued squeeze on household incomes from higher energy costs and the added impact of higher inter im Is est rates on debt repayments.
The main risk from the housing market is a more abrupt correction in 2007 following further increases in the interest rate. The combined threats of higher interest rates, an Increased regulatory burden, the effects of the Working Time Directive, training costs and fuel prices will severely test the UK haulage industry. Road haulage companies have been forced to absorb a raft of extra costs that threaten all players.