Written by Ian Robinson – Independent Financial Planner
National Savings & Investments has reduced the interest rate on many of its savings products, in what has been viewed by many as another bitter blow for savers.
This will cost savers, as a collective, hundreds of millions of pounds when compared with gains they would have made with historic rates. But it also sends a strong signal to banks, who can change savings rates without the need to refer to account holders.
NS&I, which is backed by the Treasury, plays an important role in the savings market. Although the blame for the reduction has been placed on the low rates paid by banks, it becomes a vicious circle as the move could encourage them to further reduce their yields.
Since the financial crisis, now more than 10 years ago, savers have suffered considerable reductions in the interest they receive, largely following the policies put in place to repair the financial system.
Most governments, including the UK’s, have reduced interest rates to a level where they are at, or close to, their historic low.
They have also engaged in a policy of “quantitative easing”, where billions of pounds have been poured into the monetary system. It may have been necessary at the time, but savers have suffered and little has been done to help them.
Instead, banks, and now NS&I, have reduced their rates exponentially. They are generally below the inflation rate, so anyone who is keeping their money in one is losing money in real terms. Pension annuity rates, which pay an income for life after retirement, have also fallen sharply.
What we have to remember is that this is all relative. UK inflation in 1990 was 9.46%[i], but the Bank of England base rate at the end of the year was 13.875%[ii]. This gap in favour of savers continued until the financial crisis. In 2010, when inflation stood at 4.61%[iii], the base rate at the end of the year was 0.5%. Since the financial crisis, interest rates have consistently been below inflation and so the real value of money has fallen.
So, the question we ask ourselves is “why should you bother to save?”. It is simple – most people do not have the luxury of being able to afford everything they want, whenever they want it.
Whether it’s emergency repairs to the car, a new boiler or dental work, there will always be occasions when money is needed at short notice. Having access to savings where the value is not dependent upon investment returns is therefore important.
This leads us on to how much you should keep as an emergency fund, accepting that the return on whatever you set aside is likely to be minimal, perhaps even losing its value when inflation is considered. The Money Advice Service suggests that three months expenditure should be set aside, but research shows that 15% of the British population have no savings at all and a third less than £1,500 – this is broadly equivalent to an average of six weeks expenditure[iv].
Savings are important, but it is a fine line between holding enough in cash and too much. Whilst there is the argument that cash does not fall in value, it’s clear that over the longer term the real value is reducing. In this case, seemingly taking no risk by retaining cash and not investing is transferring investment risk to inflationary risk.
If inflation runs at the Government target of 2% until 2030, then £1,000 would need to have grown to £1,219 just to maintain its value. Cash savings will simply not provide the long-term return needed to keep pace with inflation.
The last time a government did anything significant for savers was five years ago when George Osborne launched the 65+ Guaranteed Growth Bond. It became the best-selling retail savings product in British history.
Since then, all we have had is a different version of the Individual Savings Account (ISA), almost all of which depend on interest rates.
So, we come back to why we save. Saving is appropriate for a variety of needs, but we need to define them in the short, medium and long term. When we accept that different approaches are needed, we can move away from an over-reliance on cash rates and the media comments about the treatment of savers. Positive returns are achievable, but you must review your approach and look at what type of risk you’re prepared to take – inflation or investment.
In a future article, we will look at the basics of investing.
If you would like further information about savings, or should you require additional guidance on a separate financial planning matter, then please do get in touch. You can contact me directly on 01603 706864. Alternatively, you can email me at Ian.Robinson@lffp.co.uk.
This is solely for informational purposes and nothing in it is intended to constitute advice or a recommendation. You should not make any investment decisions based on this content.
While considerable care has been taken to ensure this information is accurate and up-to-date, no warranty is given as to its accuracy