It looks as if savers could finally be in for better times in 2014 as inflation dropped to the Bank of England’s two per cent target in December 2013, the lowest it's been in over four years.
The consumer prices index (CPI) rate of inflation had been running at an average of 3.3 per cent in 2010, 4.5 per cent in 2011, and 2.9 percent in 2012 and much of the subsequent period.
Lean times for savers
Since the financial crisis began, the Bank of England has moved to protect homeowners by reducing the Bank interest rate and it's remained at the record low of 0.50 per cent since March 2009.
Coupled with the Funding for Lending Scheme (FLS), which allowed banks and building societies to borrow money from wholesale markets at reduced rates, and reduced their need to attract deposits from savers by offering higher interest rates, it has been a lean time for savers.
However, after finally reaching the Bank target for the first time since November 2009, inflation is expected to stay close to the 2 per cent target for most of this year, increasing the availability of inflation-beating savings rates.
Between when the FLS was introduced in August 2012 and the end of 2012, just four months later, savings rates slipped dramatically and this also meant that the number of accounts offering bonus rates also fell.
Moneyfacts Editor Sylvia Waycot, said: "Providers no longer need savers' money to prop up their bank balances, thanks in part to the Funding for Lending scheme. Rates started to drop when it was introduced.”
This policy has also harmed savers because it has reduced gilt yields which in turn have led to annuity rates falling.
Dr Ros Altmann, director general of Saga believes the policy may have also delayed the economic recovery. She said: "Although mortgage holders have done well, they have not rushed out to spend the extra money they have each month.
"Many have merely accelerated their mortgage repayments to pay down their loans faster, because they had over-extended themselves to buy their properties. The benefits of lower rates have, therefore, not fed through to growth as would be expected, while those who do not have big debts have suffered falling incomes as rates decline."
Savings rates increasing
According to research from Moneyfacts from December 2013, there were 51 savings accounts that beat inflation, compared to just three at the start of the year.
Whilst this is an encouraging sign, 27 of these were fixed-rate bonds and 24 were cash Isas and all 51 savings accounts require depositors to lock their money away for at least three years.
There are a number of accounts that now offer 3.0 per cent or above over five years, but some have a minimum deposit of £1,000 or more. The best two-year savings bond currently pays 2.40 per cent.
The best easy-access savings account still only offers a top rate of 1.50 per cent, only 75 per cent of the current 2.0 per cent rate of inflation, while the average rate for easy-access savings accounts still languishes at just 0.70 per cent.
What rate do you need to beat inflation?
To beat inflation basic rate taxpayers need to earn a rate of at least 2.50 per cent. Higher rate taxpayers need to earn at least 3.3 per cent after tax and currently there are only a few five-year savings bonds that pay that rate.
Cash ISA rates only need to be higher than inflation as savers do not need to pay tax on the interest earned.
Locking away your money for five years is not advisable as it is likely that better rates will become available over the next two years, certainly when the bank rate begins to creep up which is likely to be in 2015.
The impact on people relying on savings interest
Many older people rely on savings rates as a vital part of their income, especially people who have retired.
Many of these people feel they have been the losers of almost five years of the Bank of England base rate at a record low of 0.50 per cent and that they have been penalised for doing the right thing and being financially prudent and providing for their retirement.
Dr Ros Altmann, said: "Older savers, who had expected to be able to live on income from their savings, have been particularly hit since 2008.”
The legacy of low interest rates
As well as penalising people who have done the right thing by saving all their lives, long-term low interest rates could discourage people from getting into the good habit of saving money for a variety of future financial needs from pensions to funding their children’s further education.
Sylvia Waycot said: "If the experience of saving continues to be one of frustration it could result in the savings habit becoming a thing of the past and what would that mean for home ownership, pensions and long-term care?"
Many retired people have relied on the interest from savings to accompany their pensions and provide income in their retirement.
Former Bank of England Monetary Policy Committee (MPC) member Danny Blanchflower said: “The letters the bank of England gets are hugely disproportionately from savers saying, “You rotten people, you must raise rates because I am living off a fixed income.”
“At the moment the worry is about borrowers. You can’t raise rates because the UK Economy is so interest rate sensitive.”
Will 2014 provide renewed hope for savings rates?
However, there are signs that savings rates will rise this year. The FLS will come to an end for household lending in 2014 and this should encourage banks to try and attract deposits from savers in the traditional way - through competitive interest rates.
The economy is improving, with provisional figures out at the end of January from the Office for National Statistics (ONS) showing that the economy grew by 0.7 per cent in the final quarter of 2013 and by 1.9 per cent over the year, the best result since 2007.
The improving economy means it is very unlikely that the QE programme will be added to, so this other negative actor on savings rates should decline.
Inflation has fallen to the lowest level for over four years and most economists believe it will be stable for the foreseeable future. Unemployment is falling much faster than the Bank of England expected, which makes it more likely to lead to an increase in interest rates sooner than expected, which should result in better rates for savers.
• Interest rates quoted valid as at January 29th 2014
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