The Bank of England has hinted the base rate could be cut below zero for the first time ever
The Bank of England has refused to rule out cutting interest rates to below zero to boost the economy, but the move would penalise savers while rewarding homeowners.
The Bank’s governor, Andrew Bailey, has confirmed that negative interest rates are under “active review” after being questioned by MPs on Wednesday.
Speaking at a hearing with the Treasury Select committee he told MPs that the Bank was looking at how effectively other central banks have used negative interest rates.
He said “We do not rule things out as a matter of principle. That would be a foolish thing to do. But can I then follow that up by saying that doesn’t mean that we rule things in.”
Policymakers are considering negative interest rates after official figures showed that inflation had fallen to a four-year low of 0.8% in April – well below the Bank’s 2% target.
The Bank has already cut the base rate to a record low of 0.1% to help support the economy amid concerns about the coronavirus pandemic.
Lower interest rates can be used to help boost the economy as they make it cheaper for households and businesses to borrow money.
Japan’s central bank and the European Central Bank have both already adopted negative interest rates.
The news comes after the Government sold a bond with a negative yield for the first time.
How do negative interest rates work?
If a country's central bank sets its base rate below zero, high street banks must pay to deposit cash with it.
It is an extreme measure designed to encourage banks to lend more money to businesses and consumers in order to stimulate the economy.
For example, if the interest rate goes below zero it will encourage high street banks to offer cheaper loan rates to the public.
How could negative interest rates affect savings?
For savers negative interest rates are huge problem as they will see their cash eroded.
This is because they are will be charged by banks to look after their cash.
If the bank cuts the base rate below 0% this means further woe for savers who have already seen rates plummet this year.
Anna Bowes, co-founder of Savings Champion, says that if the base rate goes into negative territory providers would continue to drop rates.
“The situation for savers is desperate and things just continue to get worse.
“If anyone does offer negative savings rates it would be the big banks, but I do not see it happening. Savers faced with having to pay to keep their money with a provider will find other things to do with it.
“There will always be providers that are still paying interest and there will always be competition.”
How could negative interest rates affect mortgages?
In theory, negative interest rates are good news for mortgage borrowers as they will likely result in lower rates.
With negative interest rates the bank effectively pays the customer to borrow money, so it would mean paying back less than you have been loaned.
For example, if you have a 25-year mortgage and paid negative interest rates, at the end of the term you will have repaid less than the original amount you borrowed.
Last year in Denmark, Jyske Bank became the first bank in the world to offer a mortgage with a negative interest rate of -0.5%.
Under the deal, borrowers make monthly payments but the outstanding amount is reduced each month by more than what the homeowner has paid.
However, in practice the small interest borrowers make could easily be wiped out by loan fees and closing costs.
David Hollingworth, associate director at L&C Mortgages, says that while it is unlikely mortgage rates will become negative if the base rate falls below zero, this could put pressure on lenders to cut rates further.
He says: “Tracker mortgages have a 'floor' or 'collar' on the rate, which places a minimum pay rate on the mortgage and stops it going below 0%.
“Standard variable rates and fixed rates are determined by the lender, so if the base rate falls we could see these rates drop.”