Shock therapy for interest rates burns shares

Nov 7 2008 by Nevill Boyd Maunsell, Birmingham Post

There is nothing like falling interest rates to get the stock market going.

They are the cue for markets to “look across the valley” and set their sights on the sunny uplands on the other side etc etc.

Not yesterday.

For a few brief minutes after the Bank of England delivered what it may have intended as a powerful dose of shock therapy shares did perk up – then fell off the cliff again to finish with a 258-point loss on the Footsie.

That looks like real fright, fear that the Bank knows something that nobody else knows.

Indeed, the Bank’s uncharacteristically wordy statement explaining its decision contained a reference to reports from its regional agents pointing to “continued severe contraction in the near term”.

For years, the Bank’s governor Mervyn King has been telling us that monetary policy should be boring.

He heads a committee that regularly shies away from doing anything to surprise the markets.

Yesterday was altogether different. However much you welcome the prospect of cheaper money, there is no comfort to be taken from the cause of it.

Whether the Bank’s shock therapy, let alone Chancellor Darling’s order to the commercial banks to pass it on to their borrowers, makes a blind bit of difference in real life is anything but certain.

The credit crunch has detached the Bank’s official interest rate from the cost of borrowing actual money – always supposing you can find somebody to lend to you at all.

Commercial banks base their activities not on the rate decreed by the Bank of England each month, but on LIBOR, fixed by a huddle of bankers at 11am each day.

The idea is that, they agree on the rate at which they think they would be able to borrow.

At 11 yesterday, when the markets were expecting a one per cent cut from the Bank, they pitched three-month LIBOR at 5.56 per cent.

Logically, one might expect them to trim that by a half-point this morning to take account of the Bank’s half-point surprise.

Don’t bet on it, though.

On no account bet on a mad rush to follow Lloyds TSB’s headline-catching 1.5 per cent cut in its standard variable mortgage rate.

It is very welcome if you have one of those mortgages.

But not many home-buyers are on standard variable rates nowadays – and several other mortgage rates have recently been creeping up, not down.