There have been many key points in the history of the Bank which have guided its future in this country. In the early years the Bank system was weak in the rule of King William and Queen Mary. Over the years though, various progressions have been made with the introduction of loans, interest rates and various other things which make up the Bank today.
The Bank of England is controlled by the level of interest rates it sets via the manipulation of short term interest rates. This is controlled by the Monetary Policy Committee (MPC). If the MPC think that the demand is set to rise too fast, then they will increase the interest rate, but if they think demand is growing at a slow rate, or maybe even possibly falling, they will then reduce the interest rate. This is known as the transmission mechanism.
The MPC is made up of nine members. Five of them are from within the Bank of England and include the Governor and two Deputy Governors, the other four are called external members and are appointed by the Chancellor. At each monthly meeting the members vote on what they believe should happen to the interest rates. If the vote is equal, then the Governor of the Bank of England has the casting vote.
There are many different internal consumer demand changes that will affect the general public. Firstly there is consumer borrowing. Many consumers use this method to borrow money in the form of credit cards or loans. As the interest rates increase, it will become less attractive to borrow at this time as repayments will be higher
Next, there is consumer debt. Because of levels of borrowing at present, higher interest rates will mean higher repayment costs. This is known as debt servicing. This will leave the consumers as a whole with less surplus income to spend as this leads to a fall in demand.
Mortgage debts are present because most people have to borrow to purchase a home and the payments on their property will vary based on the interest rate. Higher interest rates means higher repayments which ultimately leads to a fall in demand.
Expectations are another point to consider. If interest rates increase then people may have less confidence in the future of the economy and may hold off purchases as they become concerned about a possible fall in income or even worse, the possibility of becoming unemployed.
Asset prices may be affected by interest rates, with an increase in the interest rate meaning asset prices may fall. This may be shares or perhaps houses. If asset prices decrease then people feel like they have less money and thus cut back on spending.
There is also an external demand change, with this being the exchange rate. An increase in exchange rates may lead to an appreciation in the exchange rate. This will make exports less competitive overseas and may therefore lead to a fall in demand for UK exports. This will also mean a fall in demand for goods and services in the economy.
Many business borrow money from banks and it is these demand changes that affect the interest rates which ultimately affect how much the business owes the bank. One solution is that businesses agree with the lender that funds are only drawn when needed meaning interest will only be paid on amounts drawn and the business will not have to pay interest on unused funds of the loan. (Atril, P and McLaney E Accounting and Finance for Non-Specialists fourth edition 2004 Chapter 12 p356-357)
“We have been able to demonstrate that using the point and figure charts one box system, important turning point levels for UK interest rates are predictable sometimes decades in advance. The importance
of interest rate setting should prioritise forecasts.”
(Ronald L. Giles Managerial Finance; Volume: 31 Issue: 5; 2005 Research paper). What this is saying is that we can predict how interest rates will fall on rise based on the current state of the economy and the position it has within the world trade. If economy is doing well then we can say that interest rates will be affected in a way in which we can predict for the future. In this case they may rise but if the economy is doing poorly then they may fall in the future.
To conclude with I would say that the Bank of England plays a major role in the stability of this country. Without it this country would have no financial stability to be a world player on the trade market like it is now.
