The BoE’s decision to raise interest rates against the backdrop of supply chain issues and rising energy prices will make robust working capital provision essential.

Last week the BoE monetary policy committee voted five to four in favour of raising official interest rates from 0.25% to 0.5%, with the minority wanting a larger, half-point increase in a hawkish turn that almost involved interest rates rising half a percentage point.

The rate rise will be a cause for concern for businesses already facing mounting cost pressures and soaring energy bills, said Suren Thiru, Head of Economics at the British Chambers of Commerce. “Although a quarter point rise may have a limited impact on most firms, many will view back-to-back rate hikes, and four Monetary Policy Committee members voting for a more significant rate rise, as a leap towards a sustained period of significant monetary tightening.”

Nor does Thiru believe the strategy will have much of an impact on inflation. “The Bank of England is seeking to dampen an inflationary surge it has little control over. Higher interest rates will do little to limit the soaring energy costs and persistent supply chain disruption that are driving the current spike in inflation.”

Since the increase in Ofgem’s energy price cap from April is set to push inflation higher still, he believes further rate rises are inevitable, undermining confidence and lowering growth. Urging the government’s Supply Chain Advisory Group and Industry Taskforce to work with industry, he said this could deliver practical solutions to ease the supply constraints that continue to drive the upward pressure on prices.

Perhaps most troubling for the BoE was information from its regional agents that showed companies expect pay settlements to rise to 4.8% in 2022 amid the tight labour market. Cue Bank of England governor Andrew Bailey’s comments that workers should avoid asking for large pay rises to help keep inflation under control. “In the sense of saying, we do need to see a moderation of wage rises, now that’s painful,” he said. “But we need to see that in order to get through this problem more quickly.” Elsewhere, a central bank survey found businesses saying they would raise prices by a similar amount.

Working capital

The rise in rates has implications for treasury, warned Alistair Baxter, Head of Receivables Finance at Taulia, arguing that with the days of historic lows in interest rates over, the focus needs to shift to working capital provision. “While the impact on businesses and consumers cannot be underestimated, treasurers, especially, must be aware of the increased cost of borrowing and the pressure on already strained net working capital positions.”

The impact of rising rates will trigger a surge in demand for working capital, particularly amongst SMEs, agrees Douglas Grant, Group CEO at Manx Financial Group. “We believe that demand for working capital is set to soar to unprecedented levels as more businesses desperately require liquidity provisions to counteract supply chain issues, increasing wage inflation and additional pandemic-induced headwinds. With the cost of borrowing set to increase, many SMEs are going to continue to struggle in 2022.”

Resilient SMEs would be well-advised to take stock of their current capital structure and if appropriate, access fixed term, fixed rate loans to prevent additional exposure to an increasingly volatile lending market, he advises. “In 2022, businesses will no longer be able to rely on government support schemes to keep their businesses afloat and while this will be very painful for many, it will also create an even more resilient and healthy workforce for the future.”

Policy mistake?

The fact that interest rates nearly rose more 0.25% holds insight into what lies ahead, said Georgina Taylor, multi-asset fund manager at Invesco, who argues the risk of a policy mistake in the bank’s attempt to curb inflation is high.

“The risk is that Central Banks are being forced to respond to the here and now, rather than lay out a policy path incorporating forward looking measures of growth and inflation. The implication of this policy manoeuvre is that they may have to stop hiking very quickly or risk a policy mistake by putting the brakes on the economy too fast and too quickly.”

Experts conclude with a nod to enduring euro weakness ahead. In contrast to policy in the US and UK, the ECB has left interest rates unchanged at 0% despite the Eurozone experiencing higher levels of inflation. “If Christine Lagarde manages to hold strong – and not raise rates – it could spell more trouble for the euro which has already lost almost 6% against sterling in the last year and over 6% against the dollar,” concludes Shane O’Neill, Head of Interest Rate Trading for for Validus Risk Management.