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What will negative interest rates mean for mortgages, savings and investments – will my bank start charging?

Andrew Bailey is considering whether to use negative rates
Andrew Bailey is considering whether to use negative rates

The Bank of England has told banks they have six months to prepare for negative interest rates, which means the prospect of banks paying you to borrow and charging you to save is moving closer to reality.

The central bank’s Monetary Policy Committee kept interest rates at the record low level of 0.1pc, but has ordered firms to examine how negative rates could be applied.

In a letter to bank chief executives released alongside the MPC minutes, Prudential Regulation Authority boss Sam Woods said responses to its consultation of negative rates suggested “the majority of firms” would be able to implement negative rates within six months if they were implemented.

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However, Andrew Bailey, the Bank of England governor added that “nobody should take any signal” on the likelihood of negative rates from the PRA’s request that banks assess their capabilities to handle such a policy.

The idea of sub-zero rates is to encourage firms to borrow, invest and grow, providing a boost to an economy struggling to come out of one of the worst recessions in history. This would help restart employment growth once the furlough scheme ends and fight off the bleak prospect of deflation – where prices start falling and the economy enters a vicious downward spiral.

But what would negative interest rates actually mean for your personal finances? Will your mortgage lender be sending you a monthly cheque? Will you have to write one for your savings provider? And what will the impact be on markets and our investments?

Will my bank pay me to borrow cash?

Being paid to borrow is highly unlikely as most mortgages in Britain are taken out on a fixed basis, meaning homeowners would not see their rate change if the Bank Rate were to fall below zero.

The biggest beneficiaries would be those on tracker and variable mortgages as the interest rates move in line with the Bank Rate and would drop by the corresponding amount.

However, banks often have a “collar” or “floor” clause written into these mortgages, meaning they cannot fall below a set point. For example, tracker mortgages agreed by Nationwide since 2009 state that the interest rate cannot drop below 0pc, regardless of the Bank Rate.

Variable-rate loans, including lenders’ standard variable rates, are not guaranteed to fall by the same amount as the Bank Rate, but in practice any significant fall or rise is passed on to consumers. They may also have clauses which state they will not fall below zero.

Consumers can take advantage of negative interest rates by choosing a tracker loan today as repayments may fall should the Bank Rate turn negative.

However, tracker mortgages are not necessarily cheaper than fixed-rate loans. The lowest fixed rate today is available from Skipton Building Society and charges 1.14pc. By comparison, HSBC has the lowest tracker rate at 1.39pc, which is 1.29 percentage points above the Bank Rate.

Will I be charged for savings accounts?

Low rates and negative rates are used to get businesses borrowing by cutting the cost of loans. However, when it comes to consumers, banks are unlikely to ask savers to pay for an account.

Banks need our savings deposits so they have cash – known as liquidity – to lend. They need to pay interest on our money so that we do not put it under the our mattresses.

If this happened, it would pose a large security risk, something lawmakers and regulators would not allow to happen. The most likely outcome is that savings deals will continue to fall, but not past zero. Banks will likely recoup any losses on consumer accounts by trying to increase profits in other parts of their businesses, such as through premium accounts.

Savers looking to get the best rates should lock up their cash in a fixed-bond account as there is little prospect of rates increasing any time soon. The best one and two-year fixed-bond accounts on offer today are both from Al Rayan Bank, paying 0.85pc and 1.15pc respectively.

The best three-year fixed is also from Al Rayan Bank, paying 1.31pc. The best five-year fixed bond is from Gatehouse Bank and pays 1.5pc. Al Rayan Bank and Gatehouse Bank are Sharia banks and returns are not guaranteed, although they tend to pay the advertised rate and are protected by the Financial Services Compensation Scheme

Outside of Sharia banks, Ford Money pays 0.7pc for its one-year fixed rate and Smartsave pays 0.85pc for its two-year fixed. The government-backed National Savings and Investments cut its market-leading Income Bonds rate from 1.16pc to 0.01pc last year.

How will this impact my pension and Isa investments?

The Bank Rate affects how investors value other assets because it affects the rate at which companies and governments can borrow.

A falling interest rate is positive for bonds as it makes their yields relatively more attractive and therefore increases demand for them, pushing up their value.

The impact on stocks is more complicated. While lower rates signal economic problems as the Bank of England is trying to stimulate the economy, suggesting the outlook for company earnings has become worse which could have a detrimental impact on share prices, it also means cheaper debt for companies which they can use to fuel growth.

This is a bigger boost for fast-growing companies with low or non-existent profits as they can use cheap debt to expand and become profitable. Smaller companies tend to be growing the fastest, so this is the area of the stock market which could benefit the most.

Banks, which rely on higher interest rates for higher profits, are negatively affected by falling rates while companies with lots of debt, such as airlines, could benefit from lower borrowing costs.

Another positive for stocks is that it increases the value of future earnings relative to the lower yields on offer from the bond market. This means it is more worthwhile owning stocks than bonds for future income, which pushes up share prices.

A falling interest rate is also positive for gold. One of the criticisms of the precious metal is that it does not yield anything, but in a world of negative or extremely low interest rates this becomes less of a setback. The gold price has risen 50pc over the past five years.