Interest rates remain on a downward path, but the pace and extent of cuts is “now shrouded in a lot more uncertainty,” Andrew Bailey told MPs at a Treasury Committee meeting this week.
The governor of the Bank of England refused to make a prediction on the outcome of the upcoming rates meeting on 18 June, but indicated that trade tensions have made the global economic environment more “unpredictable”.
The MPC is currently of the opinion that tariffs will reduce global economic activity, lowering export prices and inflation – but Bailey added that this view is “open to interpretation”. If tariffs disrupt supply chains, for example, that could prove inflationary.
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The OECD’s latest outlook, published on 3 June, takes a different stance, arguing that higher trade costs are “likely to fuel inflation”.
The Office for National Statistics reported that UK inflation rose to 3.5% in April, the highest level in over a year. It has since revealed that this figure was 0.1 percentage point too high after a data blunder on road tax from the Department for Transport.
The ONS figure will not be revised, but the latest developments bring April's CPI reading in line with the 3.4% the Bank of England had forecast. Despite this, a June interest rate cut currently looks unlikely.
How many further interest rate cuts this year?
Economists are divided when it comes to the future path of interest rate cuts.
Research firm Pantheon Macroeconomics argues that the quarterly pace of cuts seen so far has been too fast. “We think a pause is coming,” said Robert Wood, the firm’s chief UK economist. He expects the MPC to cut just once more this year in November.
Wood argues that the tariff shock is fading, and that inflation and growth are too high and too strong for the MPC to continue at its current pace.
The economists at Deutsche Bank disagree. They expect rate cuts in August, November and December, bringing the base rate to 3.5%. Pay data could allow the MPC to speed up the pace of rate cuts in the final quarter of the year, in their view.
ING thinks the MPC will continue with quarterly rate cuts, meaning two more reductions this year. That said, its economists haven’t fully ruled out a faster pace, particularly if services inflation falls faster than the MPC’s forecast.
The labour market is cooling
The labour market is cooling, but metrics like wage growth remain high. This is an important indicator for the Bank of England, as wages are a major driver of inflation.
The latest labour market report shows wages grew 5.6% annually between January and March. This is lower than the recent peak of 7.9% (June-August 2023), but inconsistent with inflation returning sustainably to the 2% target.
The Bank of England expects pay growth to come down further this year, however not all committee members agree about how quickly this will take place.
The Bank’s chief economist Huw Pill is concerned that events of the past few years have created lasting change. Bigger pay rises may have become culturally engrained, with workers continuing to expect them even as resource pressures and the labour market ease.
Pill voted for a “skip” last month, alongside MPC colleague Catherine Mann. Both thought the base rate should be held steady at 4.5%. Two other committee members (Swati Dhingra and Alan Taylor) voted for a 50 basis-point cut.
All four were ultimately outvoted by the remaining five MPC members, who opted for a 25 basis-point cut, bringing the base rate to 4.25%.
What do falling interest rates mean for mortgages?
A drop in interest rates generally translates into cheaper mortgages. The average two-year deal is currently 5.13%, while the average five-year deal is 5.10% (5 June).
This is significantly cheaper than this time two years ago. At its peak in August 2023, the average two-year rate was 6.85% and the average five-year rate was 6.37%, according to Moneyfacts.
This will offer little comfort to those coming off a relatively cheap five-year deal agreed before rates started rising in 2021. Their monthly repayments are likely to jump when they refinance.
Despite being influenced by the base rate, mortgage rates are priced based on swap rates, which can move up or down based on other factors like gilt yields and inflation.
Commenting on the latest market movements earlier this week (2 June), Sarah Coles, head of personal finance at Hargreaves Lansdown said: “Recent rises in gilt yields are likely to mean the best deals are taken off the table in the coming days.”
Whatever happens with interest rates, it is worth shopping around a few months before your current deal expires to lock in the best market rates as they appear. If a better rate appears in the meantime, you can usually change it right up until the start date.
What do falling interest rates mean for savings?
The top savings deals have disappeared over the past 18 months, first in anticipation of base rate cuts and then in response to them. Savings rates are likely to fall further over the coming months.
If you are happy to lock up your cash for a year or so, it could make sense to fix your savings to lock in higher rates for longer. The top one-year fixed account with no minimum deposit requirement currently offers 4.38%. You can earn 4.27% in an equivalent ISA.
See our round-up of the best easy-access rates, one-year savings accounts, regular saver accounts and cash ISAs for the latest deals on cash savings.
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