Knock-on effects of the Bank of England’s policy on interest rates might force some businesses to consider some belt-tightening, at least in the short term, writes Rupert Saunders

Interest rates are back in the news again. The decision earlier this month by the Bank of England to keep the base rate on hold at 5.5% was not entirely unexpected, even though some retailers were calling for a modest 0.25% cut.

The bank is not in the habit of moving rates two months running and, remember, it is tasked with keeping the inflation rate below the Government’s target of 2%. Rising energy prices (a real economic worry at the moment) are likely to push inflation up, not down.

Of course, interest rates are not just about the price you and I pay for our mortgage. They have a significant effect on company finances, too, especially over the longer term. Most companies rely on bank loans to carry on their business and business car providers, such as leasing companies, have to borrow massively to fund their fleets.

In the medium term, therefore, the past 18 months of rising interest rates and the more recent so-called ‘credit-crunch’ is going to have a significant effect on the cost of business cars. And that’s before you even start to think about rising fuel costs and maintenance bills.

What the ‘credit-crunch’ means, in plain English, is that banks get nervous about lending money and so make life more difficult for borrowers. That could mean turning down loan requests for smaller businesses or, more likely, charging higher interest rates to offset the increased risk.

&#8220Smaller funders may struggle to raise the money
to lend. Even larger leasing firms may have problems if they are not part of a big bank.”

Rob Bailey, Lombard Vehicle Management

“The cost of funding will hurt and smaller funders may struggle to raise the money to lend,” according to Rob Bailey, head of Lombard Vehicle Management. “Even larger leasing firms may have problems if they are not part of a major bank.”

Of course, Bailey has the advantage here – his leasing firm is part of the giant Royal Bank of Scotland Group – but even he will not be immune.

One way to offset the extra cost of borrowing would be to up the predicted residual value of the cars, thus reducing the nominal amount borrowed. But this is a high-risk strategy, especially as there are signs that booming demand for used cars is coming to an end.

Glass’s Guide residual values for January have been marked down, against the seasonal trend, and the editors are predicting a £400 drop in average values per three-year-old vehicle against 2007. Sensible leasing companies should be taking note, despite the commercial pressure to keep rentals at rock bottom.

The good news is that almost all experts expect interest rates to fall in the medium term, to around 5% by the year end. But, in the short term, expect your leasing rates to rise – and try to hold back on any major fleet investment until beyond the mid-year.