London : Higher interest rates are on the way back. The only questions are how quickly they will rise and how far. Admittedly, central bank action in tightening policy has thus far been confined largely to fast-growing emerging markets.

But even in struggling Western economies, long-term rates (the price markets charge governments for their longer-term borrowing) have already shifted markedly higher since their low point last March, despite massive amounts of Quantitative Easing (QE) in both the US and UK. It is surely only a matter of time before short-term rates follow suit. Or so you would assume.

Lively debate

In fact, this is by no means a done deal, and only the brave, among whom I count myself, would unambiguously predict that bank rate in the US and UK will be higher by the end of the year.

At some point, the flood of cheap liquidity created by policymakers to counter the recession will have to be withdrawn, but the operative words are "at some point". Already a lively debate has sprung up in the City on when. At one extreme lie the likes of Ben Broadbent of Goldman Sachs, who believes UK monetary policy will once more be in tightening mode by the middle of the year.

Bolder still is Simon Ward of Henderson New Star, who has suggested UK rates may rise as soon as March.

He's right to believe that Mervyn King, Governor the Bank of England, would not feel himself at all constrained by the looming general election if he thought such action appropriate. King is said to have formed a gentlemen's agreement with Alistair Darling, the Chancellor, to stop criticising the Government's fiscal policies until after the election, but it seems unlikely this self-denying ordinance stretches to not taking action on rates.

That would defeat the whole purpose of an independently determined monetary policy. In the US, Alan Greenspan was accused of costing President George Bush senior a second term after raising rates prior to the election in 1992. These allegations have instructed an understanding ever since that the Fed should not seek to raise rates in the run up to a presidential election, but the same convention does not exist in Britain.

Luckily for King, it seems quite unlikely that he will be confronted by such a dilemma. In a recent interview Andrew Sentance, one of four externally appointed members of the Bank of England's Monetary Policy Committee, seemed to hint at higher rates to come.

He saw little chance of the double-dip recession feared by some and felt that enough had already been done to lift the economy out of recession. But this is a long way from saying that the bank rate would be rising within a few months.

At the other extreme are the likes of Roger Bootle of Capital Economics. So worried is he about the private debt overhang that he's gone out on a limb and predicted the bank rate will remain below one per cent for the next five years. David Owen, chief economist at Jefferies, takes a not dissimilar view, though his prediction that European and UK rates will remain as they are doesn't extend beyond the next year.

As Owen points out, despite the more upbeat data of recent months, the economy is still operating at way below capacity, and he worries that recent buoyancy in retail sales was simply forward spending ahead of the rise in VAT.

Lurking behind most of this bearish analysis are the lessons of past deflationary experiences prompted by financial crises.

The problem becomes not that the banks won't lend but that the punters won't borrow.

The key issue for policy is to judge when the switch back to private demand is sufficiently robust to remove the public support.

— The Telegraph Group Limited, London 2010