Base rate set to stay at 0.5% for three years - what can you do?
The Bank of England (BoE) will hold interest rates steady at 0.5% until the unemployment rate falls to 7%, governor Mark Carney has announced.
Carney was making his first speech using the principle of "forward guidance", where the BoE sets out a longer-term view of interest rate movements.
UK unemployment is currently running at 7.8% and it is expected to take another three years before it falls to 7%.
Commenting on Carney's statement, Patrick Connolly, certified financial planner at Chase de Vere, said: "UK interest rates have been at a record low level of 0.5% for more than four years and in that time cash savers have suffered from returns considerably below the rate of inflation, meaning they have been losing money in real terms."
He pointed out that with the Consumer Prices Index (CPI) measure of inflation at 2.9%, a taxed savings account for a basic-rate taxpayer would need to exceed 3.625% gross a year to provide a real return. For a higher-rate taxpayer the interest rate on their savings account would need to be greater than 4.83% and for an additional-rate taxpayer this increases to 5.27% a year.
"The ongoing dilemma for savers is whether to accept that the spending power of their money is continuing to fall or take more risk in the hope of generating better returns," he said.
So what can savers and investors do to combat inflation and low interest rates?
"The most cautious investors should remain in cash, regularly reviewing their accounts to ensure they are earning competitive rates of interest," Connolly suggests.
"They should also use their annual cash Isa allowance, which for 2012/13 is £5,760. Saving in a cash Isa ensures that all interest is tax-free and doesn't have to be declared on a tax return."
Although there isn't one type of investment or asset class available where you can be sure of protecting your money and beating inflation, Connolly suggests those more comfortable taking some risk to generate real returns invest in a range of different asset classes including equities, fixed interest and property "in the right proportions to suit your circumstances, financial objectives and attitude to risk".
"This approach should provide you with a good degree of diversification and the growth potential to beat inflation over the medium to long term. However, of course, you run the risk that the value of your investments could fall in both real and absolute terms."
There are limits to how much you can invest in any tax year. For 2011/12, the limit is £10,680. Of that, the maximum you can invest in cash is £5,340 and the balance of £5,340 can be invested in shares (individual company shares or investment funds). If you don’t take the cash ISA allowance, you can invest up to £10,680 into a stocks and shares ISA.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
The Consumer Price Index is the official measure of inflation adopted by the government to set its target. When commentators refer to changes in inflation, they’re actually referring to the CPI. In the June 2010 Budget, Chancellor announced the government’s intention to also use the CPI for the price indexation of benefits, tax credits and public sector pensions from April 2011. (See also Retail Prices Index).
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).