UK businesses are bracing for a debt crisis as higher interest rates are expected to cost an extra £41.7bn by the end of the decade.
As cheap loans expire, borrowing costs are expected to rise, significantly impacting the economy.
According to consultancy Baringa, companies will face an average annual increase of £4.7 billion in debt servicing costs following the Bank of England's decision to end the era of ultra-low interest rates, which pushed borrowing costs to their highest level in 17 years.
Economist and Baringa partner Nick Forrest highlighted potential inflationary pressures as companies may be forced to raise prices to manage rising costs, with some companies facing the possibility of collapse. “It is tempting to look at stable or falling interest rates and conclude that we are out of the woods,” Forrest commented. “Unfortunately, this masks the fact that rising interest rates since the end of 2021 will condemn companies and the wider economy to a huge hangover for years to come.”
Baringa estimates that £1.6 trillion worth of debt is set to be refinanced between 2024 and 2030. Since December 2021, the Bank of England has raised its key interest rate from 0.1% during the peak of the Covid pandemic to 5.25% to combat the cost of living crisis. .
Despite hopes that a return of inflation towards the bank's 2% target would lead to interest rate cuts, the continued rise in prices in the services sector and the upcoming general election mean analysts now expect borrowing cuts to begin later in the year.
Many companies are likely to struggle, especially since most CFOs have little experience managing borrowing costs at these levels. “Ultimately, those companies and sectors that are highly leveraged, that took out debt when it was much cheaper, and are facing other headwinds, will struggle, and I'm sure there will be some companies where this will be the last straw,” Forrest warned. “The camel's back.”
The remaining companies are expected to pass on increased borrowing costs to clients, with three-quarters of executives surveyed indicating plans to raise rates, further exacerbating inflationary pressures.
Economists at BNP Paribas, Europe's second-largest bank, have warned that inflation will be higher and more volatile in the coming years due to factors such as declining globalization, the move to net zero, and increasing geopolitical instability. “The world, all else being equal, is likely to be more inflationary,” said Matthew Swannell, an economist at BNP. “The upshot is that the neutral rate is higher because central banks will always keep inflation at 2%.”
A rise in defense spending, with both Rishi Sunak and Keir Starmer pledging to increase it to 2.5% of GDP, could raise interest rates if it leads to increased government borrowing.
Although inflation has eased from a high of 11.1% in October 2022 to 2.3% last month, many investors are skeptical that interest rates will return to their post-financial crisis lows. Orla Järvi, fixed income portfolio manager at Fed Hermes, commented: “Inflation will be more volatile in the future due to the need to increase spending on things like defence. This will make inflation turbulent.”