On Thursday 17 March, the Bank of England hiked its base rate from 0.5% to 0.75%. It’s the third time in three Monetary Policy Committee meetings that the UK’s central bank has voted to raise borrowing costs.
So, with the cost of servicing debt going up for both businesses and retail borrowers, why hasn’t the stock market slumped? Let’s take a look.
[top_pitch]
What happened to the base rate on Thursday?
On Thursday 17 March, the Bank of England raised its base rate from 0.5% to 0.75%. This puts it back to its pre-pandemic level. The bank slashed its rate twice in 2020 to support the economy during the initial waves of Covid-19.
The base rate is important as it sets the interest rate at which banks can lend to one another. A higher rate is generally good for savers as it typically leads to higher savings rates. For borrowers with inflation-linked debt, including standard variable rate (SVR) mortgage holders, costs go up.
The Bank of England’s move comes just a day after the US Federal Reserve increased its base rate. It’s the first time the US central bank has voted to increase rates since 2018.
Following the Bank of England’s decision to hike rates, the stock market has barely moved. By 2pm on 17 March, the FTSE 100 had risen 0.68%. Meanwhile, the FTSE 250 fell by just 0.08%.
What usually happens to the stock market when borrowing costs go up?
Higher interest rates increase the cost of servicing debt. This can reduce the appetite for businesses to invest.
In addition, higher borrowing costs can also put pressure on supply chains. This can lead to higher prices that can’t always be passed on to consumers. Remember, consumers can also suffer when borrowing costs increase.
As a result, the consequences of higher borrowing costs can have a detrimental impact on business profits. That’s why, in general, a higher base rate often leads to fall in share prices.
[middle_pitch]
Why hasn’t the stock market slumped this time?
Despite the fact that borrowing costs have increased, it’s fair to say that markets had expected the Bank of England to act. Because of this, the risk of a rise taking place was already priced into the market. This is partly the reason why markets hardly budged when the bank made its decision on Thursday.
It’s also worth pointing out that while higher borrowing costs can harm profits, investors may be all too aware of the impact of rising inflation. For this reason, investors may have welcomed the banks decision to raise rates on Thursday. The inflation rate in the UK is already sitting at a 30-year high.
Another reason why markets haven’t fallen since the base rate rise could also be attributed to a recent announcement from the Chinese government suggesting it will soon provide stimulus support to boost its economy.
State stimulus is often welcomed by investors. That’s because such actions can send stock prices soaring while reducing the short-term risk of a recession. While Beijing is over 5,000 miles from London, soaring stock prices in China can positively impact share prices in the UK due to the globalised nature of trade.
In addition to this, speculation is also mounting of a peace deal between Ukraine and Russia. This has given investors hope that the world economy will soon benefit from greater stability.
Key takeaway
While higher borrowing costs are typically bad news for the stock market, the fact that Thursday’s hike was largely expected, in addition to other encouraging news for investors, may explain why the stock market hasn’t tumbled.
However, do bear in mind that if the Bank of England decides to increase its base rate again this year, there’s no guarantee that markets will be as forgiving.
