David Farrow, managing director, Barclays Corporate Easter

Forecasting is far from an exact science but the exceptional economic events of 2011 have made predicting what the future might hold even more challenging for businesses in Eastern region.

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Interest rates remain near historic lows and inflation remains well above the Bank of England’s target rate of 2pc, having peaked at 5.2pc in September. The Bank of England expects CPI inflation to come down at some point in 2012, although exactly when is unclear.

The predicted timing of interest rate rises continues to be pushed out as the strength and timing of any economic recovery suffers from the on-going deadlock in the Eurozone. Barclays own economists expect the base rate to rise from the current low of 0.5pc to 1.0pc by the end of 2013 and to 2, 3 and 3.5pc by end of 2014, 2015 and 2016 respectively. But forecasts are just that, and there may be more false dawns before rates tick up, as the unquantifiable impact of the European debt storm continues to rewrite the history books.

Businesses in the Eastern region have now become accustomed to the low interest rate environment and while firms are increasingly hedging against exposures to foreign exchange rates and commodities, fewer are engaging in interest rate hedging. This change in focus is partly understandable as management teams have not had to worry about a change in the base rate since March 2009 and even then the rate was falling. The last rise in the UK base rate was in July 2007.

It seems that many businesses in the Eastern region have been lulled into a sense of security around interest rates, which may ultimately prove to be false. It is almost inevitable that rates will rise at some point and businesses should be prepared for a changing monetary landscape. Some may argue that such pro-activity is a little premature but it is not uncommon to see farsighted management teams planning 3 to 5 years ahead.

You do not have to go far back in history to see how a similar interest rate environment caught some US corporate treasurers out.

Even before the tragic events of 9/11 the Federal Reserve’s Open Market Committee (FOMC) had already begun to reduce the Fed Funds rate in the preceding period, reducing it from a high of 6.5pc to 3.5pc as the US economy began to falter.

The Fed Funds rate continued to fall after 9/11, bottoming out at 1 percent in 2003/04 before rising quickly in the space of just 2 years to 5.25pc.

Many treasurers had reduced their level of hedging during 2003/04, which left them in an uncomfortable position as rates moved rapidly back up.

The key for businesses is to learn from the US experience and to plan for a potential return of interest rate rises in the future. The main issue is that current fixed rates are significantly more expensive than base, which puts a lot of borrowers off doing anything to protect themselves.

We have seen a number of borrowers take advantage of capped tracker loans, which are designed to give borrowers the benefit of some of the positive features of both a floating and a fixed rate – low rates while they last with the added certainty that they will never pay more than a pre-determined cap.

Rather than a conventional uncapped 5-year loan of Base + 3.5pc, a borrower could choose to pay Base + 4.0pc with the total payable capped at 6.5pc, for example. The borrower gets same rate protection in exchange for a small increase in the loan margin.

For example, if Base averages 4.0pc over the period, the borrower with a conventional loan would pay an average coupon of 7.5pc while the borrower with capped tracker loan would pay 6.5pc, a saving of £500,000 over the life of a 5-year £10m facility. Of course, actual savings will differ between businesses but, those which constantly evaluate risks in the widest sense, seek professional advice and access to solutions to combat these risks, will be better placed to navigate the challenging economic environment.

David Farrow, is managing director, Barclays Corporate, Eastern Region