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How do interest rates effect consumption in the UK?

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  • Matthew O'Donnell
  • Aleksandar Vasilev

Abstract

This paper analyses the link between interest rates and consumption in the UK and will allow better understanding of the relationship between these two variables, as this is extremely important to the Bank of England and the monetary policy that it adopts. Analysis of the empirical evidence from the period last 60 years has produced some interesting observations and the most significant discovery was the way consumption responds to interest rates changed over time. In the first 30 years the real interest rate had a much higher coefficient, with the lagged variable being insignificant. However, in the second period, the opposite occurred, and the lagged variable had a significantly higher coefficient. Overall, consumption and interest rates do have an inverse relationship, as in both periods the interest rate experienced a negative coefficient when regressed with consumption. Therefore, changes in consumer decision making, and the development of a lagged response to interest rate changes could alter how governments influence consumption.

Suggested Citation

  • Matthew O'Donnell & Aleksandar Vasilev, 2024. "How do interest rates effect consumption in the UK?," EERI Research Paper Series EERI RP 2024/01, Economics and Econometrics Research Institute (EERI), Brussels.
    • Handle: RePEc:eei:rpaper:eeri_rp_2024_01
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    File URL: http://www.eeri.eu/documents/wp/EERI_RP_2024_01.pdf
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    More about this item

    Keywords

    consumption; interest rate; modelling; UK;
    All these keywords.

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models

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