Defaulting banks - where will it stop?

[Jan Klimkowski]

Ooh - fear of a tiny interest rate rise sends panic through the markets.

Interest rates between 0-0.5% are clearly neither viable, nor sustainable. Such a low interest rate is clearly an extreme, short term, measure.

So much for the "recovery" and "growth" figures being real and meaningful.

But then the "assets" held by at "market value" by the big banks are mostly junk - as are their balance sheets:

Interest rate rise could wreck recovery, economists warn

Analysts warn that an increase from 0.5% could spell a mortgage bill disaster if made too soon

Phillip Inman and Toby Helm The Observer, Sunday 16 January 2011

Leading economists and politicians are warning the Bank of England that it could wreck the economic recovery if it raises interest rates too soon in a bid to reduce inflation and help savers.

A rise in base rates could severely undermine the confidence of UK manufacturers just as they are getting back on their feet, the Ernst & Young Item Club will say this week.

Senior figures in the Tory-Lib Dem coalition are also concerned about the public's reaction to rising mortgage costs if they coincide with a period of savage public sector cuts and job losses. Last night Liberal Democrat Treasury spokesman Lord Oakeshott said rates had been kept "artificially low" by theflood of money being pumped into the economy through quantitative easing.

He added that the Bank now faces a difficult balancing act as it tries to tame inflation while continuing to encourage growth: "With economic recovery picking up pace throughout the world, there will be upward interest rate pressure. It is vital we do not let that damage the economic recovery here."

Bank of England governor Mervyn King and his nine-strong monetary policy committee held interest rates at 0.5% last week, but many analysts expect them to come under pressure in the next few months to raise rates to above 1% in order to keep inflation in check. A rise in interest rates could spell financial disaster for many of the estimated eight million households with tracker mortgages. Without low interest rates, mortgage bills could rise to crippling levels and lead to a rise in repossessions.

David Cameron said last week he was concerned at the pressure on savers from rising inflation, which he described as extremely harmful. He added: "We don't want to go back to having an inflation problem as we had in the past." He emphasised that interest rate policy was the Bank of England's domain, but his comments were widely seen as a signal that No 10 wants inflation under control to protect older people's savings.

However, other prominent figures in the coalition are taking the view that mortgage rate rises could turn middle England which so far has been broadly supportive of the cuts agenda against the government after a lengthy period in which it has benefited from low borrowing costs.

The cost of living has risen in the past year following a rise in oil prices and many raw materials used in manufacturing and food production. The price of Brent crude has jumped from $72 a barrel in the summer to $98 (£62) yesterday. Copper and other vital metals have also jumped in price, while coffee has increased by 25% and cotton by 30% in the past three months.

Food prices, which make up a large part of the basket of goods used to measure inflation, have also risen following a jump in the cost of wheat and soya over the last six months.

Several rightwing economists have warned that inflation is a "ticking timebomb" and would spark a wage spiral as workers seek to protect their incomes from being eroded by rising prices.

However, the Item Club said inflation would drop back to the MPC's 2% target in 2012 once temporary pressures fell out of the economy. Peter Spencer, chief economic adviser to the Item Club, said: "It's going to be a tense start to 2011. The fiscal retrenchment will keep GDP subdued, while commodity price rises and the VAT hike will push inflation close to 4%."

"However it's vital that the MPC stands firm. These are temporary pressures; domestic cost inflation remains low and CPI inflation will come back to heel in 2012 once the VAT increase falls out of the figures next January. A premature rate rise would boost the pound, weakening the UK's ability to increase its exports particularly into the emerging markets which we have long maintained hold the key to the UK's economic recovery."

http://www.guardian.co.uk/business/2011/...-inflation