Interest rates have been a hot topic amongst press and the media during this year. All too often we are hearing of yet another Bank of England base rate increase, resulting in the highest base rate in 14 years! Of course, this is having a great impact on everyone, from those with mortgages and personal loans to businesses with finance agreements and overdrafts. So, in isolation, this makes for scary reading. However, put into a broader context, is the base rate really that high and what does this mean for the asset finance market?
First and foremost, what actually is the Bank Rate and what is its purpose?
The Bank Rate, also known as the base rate or interest rate, is set by the Monetary Policy Committee (MPC). The higher the bank rate the more interest people pay on finance agreements and mortgages, and the more interest they are paid on their savings, and vice versa if interest rates are reduced. The base rate is reviewed approximately 8 times a year, but this doesn’t mean it has to change. The purpose of changing the base rate, is in an attempt to keep inflation under control. In simple terms, the higher the base rate, the less disposable income and more is directed back into the banking system. The less disposable income meaning people have less money to spend and in theory less room for producers to put costs up.
Whilst many may think that the Bank of England base rate was a more modern-day introduction, it first came into effect in 1694 at 6%. Since then, the base rate has been as low as 0.1% in March 2020, when COVID hit, to the dizzy heights of 17% in November 1979.
So, whilst the rates are higher than any year since 2008, prior to this the rates were considerably higher.
How do interest rates impact the asset finance market?
It may not surprise you to hear that asset finance rates are also on the increase. However, there is no direct correlation between the increase in the funders’ yield and the increase in base rate. This is because funders are unable to source their funds directly from the Bank of England, so there are several layers that make up their costs:
- Bank base rate
- Cost to their source for purchasing funds – margin above bank rate
- The funder’s margin
- Our margin
The image below shows how the interest rate you will pay is made up. As you can see our margin is a very small part of the overall percentage.
This is the same as any supply chain process, yet it is easy to forget, as money is money. For example, you wouldn’t expect your morning cup of coffee from Costa, to be the same as the price the coffee beans were purchased for. Money and finance are no different.
The bank rate graph also demonstrates that from 2008 to beginning of 2022, the base rate remained fairly consistent. This meant that historically we have not encountered rate change for months and sometimes years at a time. Any increases we did see were often only small and we, as a broker, would always absorb the difference, affecting our margin.
However currently we are being notified of regular rate increases from all funders, often with only a few days’ notice before they take effect. Unfortunately, the rate increases in the current market are too significant for us to feasibly absorb.
The saving grace is that everyone is in the same boat, so at Focus we believe it is how the rate increases are dealt with, is the most important factor. One of the most important questions we are asking at the moment is lead times on any purchasing decision you are looking to make. As if the asset you are purchasing is in stock and ready to deliver this is not a problem as we can expedite the process to make sure your payments do not change. However, if there is a delay with your equipment being provided, this may mean one or more rate increases.
We also always ensure our customers are on a fixed rate agreement, so once the agreement is activated the payments are fixed for the duration of the term. This should give peace of mind for longer term budgeting purposes when looking to make a purchasing decision. We can also pay suppliers in stages (subject to supplier approval), generally meaning that the rate is fixed after the first payment, avoiding further rate increases being applied to your agreement.
To conclude, unfortunately, the interest rate increases are completely unavoidable and without a crystal ball, it is impossible to say when they will level out. However, we are doing everything we can to ensure that customers are kept up to date, and given the details required to make informed decisions. It is extremely important to us that we manage expectations and that is what we will continue to do to ensure our client relationships are still built on trust.