BBC NEWS | Programmes | Working Lunch | Education | Lunch Lesson 14

Interest rates are certainly of interest to Andrew Thomas.

He's the boss of The Natural World - a chain of shops selling unusual stuff like giant thermometers, telescopes, chemistry sets, globes and lava lamps.

To run his business effectively Andrew has to keep a close eye on interest rates.

Looking for low rates

Much of the stock in his shop is purchased overseas. Interest rates have a big effect on how much he has to pay.
Andrew Thomas, head of Natural World
Andrew Thomas: When interest rates were high people would spend less

Andrew says that two years ago the globes that he sells in his shop were 13% cheaper, "not because the price has changed but because the exchange rate has moved due to interest rate fluctuations".

Interest rates can affect him in more than one way, too.

Andrew has to buy a lot of his stock in advance - especially in the run-up to Christmas.

To do that he has to borrow money from the bank to pay for the stock, which he can then sell in his shops.

Interest rates determine how much he has to pay back to the bank on the money he borrows.

If interest rates are high, Andrew will have to pay more interest on his loans.

Buying abroad

Another reason why interest rates matter to Andrew is to do with the source of his stock. Much of it comes from abroad.

This means Andrew has to pay for his stock in different currencies.

Interest rates affect exchange rates, and if interest rates change, Andrew's pounds can be worth more or less in other currencies.

The prices he charges for what he sells don't change, but currency fluctuations can affect how much profit he makes.

Hey, big spender

Another important reason why Andrew takes an interest in interest rates is the effect they have on shoppers.

Andrew says he notices a difference in how much people spend if interest rates are high or low.

Low interest rates mean cheaper credit - which can make people feel wealthier and spend more.

Andrew says: "We found that when interest rates were high people would spend less per head on presents. Instead of spending �50 on a present they might spend �30."

Mortgage matters

Stephanie Rice, who manages one of Andrew's stores, is also interested in interest rates.

Lower interest rates meant lower mortgage payments for Stephanie
She has a mortgage, and as interest rates have fallen lately so has the interest rate on her mortgage, which means she now pays less.

Stephanie says: "I got a notice from my bank notifying me that mortgage rates had gone down. That meant lower payments for me, which is a good thing."

Not all good news

But not everyone welcomes low interest rates.

They aren't good news for savers.

Economist Steven Hope says: "When interest rates fall that leaves people with mortgages smiling.

"But there are a lot of retired folks living off savings that we don't hear about. They are in a worse position."

This is why the Bank of England, which ultimately determines interest rates, has to be so careful when it decides to make a change to them.

Student Guide

Andrew Thomas likes interest rates to be low.

Running shops demands that he sees both sides of the story.

He borrows money to buy stock - and so pays interest.

He sells his products to people who have to pay interest on the money they borrow - when they use credit cards and on their mortgages, for example.

Up or down

When he borrows money, it puts his costs up.

High interest rates mean that he has to pay more back to the bank so his profit margins are lower.

As interest rates fall, his repayments fall and he is much happier.

Falling interest rates are also good for his customers.

As interest rates fall they pay less for the money they have borrowed, leaving them with more to spend in Andrew's shop.

Just think...

If you've borrowed �100 and the interest rate is 10%, how much will you pay back in a year?

If rates fall to 8%, how will your repayments change?

If the average mortgage is around �50,000, how would a change of 2% affect someone's spending power?

Who sets interest rates?

The Bank of England determines interest rates.

It has a special group, known as the Monetary Policy Committee (MPC), which meets every month to decide whether the rate the government pays to borrow money should rise, fall or stay the same.

This rate is known as the base rate

Other banks follow the rate that has been set for the different sorts of lending they offer.

Why do interest rates go down?

The Bank of England uses interest rates to control the economy.

If it wants people to spend more, cutting interest can help because they have more money in their pockets.

Encouraging people to spend is desirable because if people spend less money then the economy slows down, or even shrinks.

Less will be produced and there will be fewer jobs.

If people can be persuaded to spend money, buying things will help to keep others in jobs.

For example, when there's lots of money about, people do things like eat in restaurants.

This means there are plenty of jobs for staff, who then have money to spend on other things, keeping yet more people employed.

Just think...

How will a family's spending change if interest rates rise and fall?

What items will be cut first? Which items will they go on buying?

How does this affect business? What sort of business would you prefer to run?

Why do interest rates rise?

If prices are rising too fast, the economy can get into trouble.

People in other countries won't want to buy the UK's products because they will be too expensive - unless their prices are rising as fast.

Strong inflation hits all sorts of businesses.

Monetary policy

The Monetary Policy Committee will decide to put up interest rates to cut the amount that we have to spend.

If we spend less, shops will have to fight for our custom and will probably cut prices in order to compete.

Individual businesses don't like this because it puts up their costs and cuts the number of customers.

But if the Monetary Policy Committee doesn't act, things may get worse until prices get so high that people cannot afford to buy anyway.

This can hurt the country's economy, perhaps even pushing it into recession.

Just think...

Why do businesses not like inflation?

Think of some of the practical factors that affect a shop for example.

Who wins? Who loses?

High interest rates can be great for lenders.

People who have savings will earn more interest and be better off.

High interest rates are bad for borrowers.

If you've borrowed a lot of money to buy a house, it may be hard to repay.

If interest rates go up, repayments may become too expensive.

Just think...

Draw spider diagrams to show:

People who benefit from high interest rates.

People who lose from high interest rates.

People who benefit from low interest rates.

People who lose from low interest rates.


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