Rates set to stay at record low

Interest rates will remain at a record low until after next year's election as the UK enjoys a period of low inflation expansion, a leading forecaster said today.

The Bank of England will have room to keep rates at 0.5% until the third quarter of next year, a leading forecaster said.
The Bank of England will have room to keep rates at 0.5% until the third quarter of next year, a leading forecaster said.

The EY ITEM Club said the Bank of England will have room to keep rates at 0.5% until the third quarter of next year amid "decent but unspectacular growt h", which will be driven by the continued recovery in consumer spending.

The body predicts that house prices will rise by 7.4% this year and 7.2% in 2015 but adds that a bubble can be avoided as long as the Financial Conduct Authority (FCA) uses its powers to restrain over-enthusiastic buyers.

It also believes that toughened mortgage lending rules, which come into force this month, will help to prevent an unsustainable boom as price growth eases to 4.2% in 2016.

Peter Spencer, chief economic adviser to the ITEM Club, said the housing market was not experiencing a typical debt-fuelled recovery.

He added: "The FCA will assume crucial importance to ensure multiples do not become too stretched and that affordability is scrupulously checked.

"If these controls are rigorously applied this will eventually constrain London prices, particularly in hotspots like Hackney, and head off problems when interest rates rise."

Mr Spencer added that consumer spending will be healthy compared to recent years but short of the 3.6% annual rate seen prior to the financial crisis.

This is because the pick up in earnings growth to 1.7% this year will be "slow and steady" and the continuation of austerity measures will mean a 1% cap on growth in most working-age benefits ahead of more welfare cuts in 2015.

The ITEM Club's forecast that the Bank of England will leave rates at 0.5% until the third quarter of 2015 reflects expectations for a period of low inflation as pressures from commodity prices and the labour market are largely absent.

The Bank has already dropped the link with an unemployment rate of 7% in its forward guidance but the ITEM Club predicts the rate will fall from 7.1% to 6.5% by the end of the year and 6% by 2015.

ITEM, which uses the Treasury's economic model for its forecasts, also expects that business investment will grow 9.1% this year, helping to boost productivity and support real wage growth.

Mr Spencer added: "Until now the recovery has been financed by a fall in the amount households save, but it appears to be moving to a firmer footing."