Interest rates on saving accounts are still not high enough
Aficionados of price comparison websites will already know this, but savings account interest rates are going up. Finally, it seems savers and those who rely on higher rates of interest from their bank and building society accounts to supplement income genuinely have something to cheer about. But when you look a little deeper, things are still not as bright as you might hope.
For so many years, the rates that savers got on their accounts was so minuscule that Cash ISAs were effectively redundant since interest for the vast majority would be too low to be taxed. It almost seemed insulting that banks were sending statements through the second class post that showed interest earned in terms of pennies! So having rates of 6% AER appears to be great news.
Inflation is still the sticking point
But, and I apologise for putting a fly in the ointment here, the banks are still not being nearly generous enough. The cost of living crisis, exacerbated by energy price hikes, a tight labour market and disruptions to global supply chains has seen inflation remain stubbornly high and infuriatingly ‘sticky’.
Of all the major developed nations, the UK has the stickiest of inflation problems, according to a recent article by Shaan Raithatha, Senior Economist at Vanguard Europe. His analysis suggests that the traditional monetary policy measures used to control inflation are less likely to be as effective as they once were. This, he says, is partially due to the proportion of home owners that have mortgages. Thirty years ago, the vast majority of home owners had mortgages compared to those that owned outright. Sometime in 2013 the numbers converged, and now in 2023 the mortgage holders account for about 45% of all homes owned in the UK. So actually, interest rate hikes are not hurting nearly as many people as they once did.
When you combine lower-impact base rate rises with global supply chain imbalances and labour shortages, the implication is that we are going to have to get used to these elevated levels of inflation for quite a while. This brings me back to the good news about higher savings rates. Headline inflation recently dipped back to around 8%, but in the UK staple foods such as pasta, dairy and fruit are still in double-digit territory, and energy prices are highly volatile due to global conflict and climate change. In real terms, savings rates 6% AER will still leave you poorer in the long term.
Cash is King….but only for the short term
This means that for savers and investors alike, the fundamental principles still apply. Keep an emergency reserve of cash equal to six months regular expenditure. For short-term capital expenditure items up to about five years, hold cash with an appropriate level of access to capture the best rates you can. For longer-term, and that is five years plus, invest in assets which consistently provide a return that is higher than inflation. Cash is King in the short-term, but real assets such as equities and fixed income are better bets over the long term.
NB: Our financial research partner, Square Mile, has produced a very useful summary of the pros and cons of saving cash right now. Take a look here.