Bank stocks were hit hard by the 2008 financial crisis. Years of heavy borrowing left many banks exposed, and some of the most trusted names collapsed. Investors faced huge losses as governments stepped in with taxpayer-funded bailouts. In response, regulators introduced strict new rules to prevent a repeat. These measures weighed on profits for years, but the sector has now come through that difficult period. Today, banks are much safer than they were before the crisis. Big investors have returned, helping to push up share prices; some have even tripled in recent years. As valuations edge back towards more normal levels, an important question remains. Do these high-yielding stocks still deserve a place in a portfolio, or have the easiest gains already been made?

Bank stocks’ wilderness years

For more than a decade, the banking sector struggled to regain the confidence of investors. Most professional fund managers suffered significant losses in the 2008 crash and subsequently found the industry difficult to navigate. Investors discovered they lacked understanding of complex balance sheets. Consequently, their appetite for banks' shares vanished for a generation. Even today, many professional investors remain wary because they find the internal mechanics of a global bank difficult to decipher.

While investors remained cautious, regulators rebuilt the global financial architecture. There has been a substantial increase in banks' capital, the cushion that stands between bank assets and insolvency. Core capital ratios, which give the size of this cushion expressed as a percentage of the bank's total risk, were as low as 4% pre-crisis; today, they often exceed 15%. In the UK, the Vickers Report mandated a separation between retail and investment banking operations. This altered the nature of the business and kept valuations low.

Jamie Dimon provided the first credible signal that this era of stagnation was ending. In February 2016, the chief executive of JPMorgan Chase invested $26 million of his own money into his bank's stock. He purchased the shares at roughly $56 per share, which aligned with the company's book value at the time. Dimon realised that the regulatory clean-up was largely complete. He saw an institution that was well-capitalised and undervalued, yet still priced as if it was ruined. His investment marked the start of a decade-long rally that eventually saw the stock price rise more than fivefold. It would take several more years and a radical change in the interest-rate environment for the rest of the market finally to reach the same conclusion.

The return of inflation

The stagnation of the previous decade ended with the return of inflation. Central banks tackled inflation by raising interest rates from near-zero to 5% and, with that, the fundamental engine of banking profit returned to health. This engine is the “net interest margin” – the difference between the interest a bank pays to its depositors and the interest it receives from its borrowers. For years, the industry struggled to generate a decent return in a world where interest rates were near-zero. The shift to higher rates boosted profits.

How much banks paid their depositors played a big role in this windfall – that is, how much of a central-bank rate rise was passed on to savers. When rates went up, banks were slow to increase interest on current accounts. At the same time, they quickly raised the cost of mortgages and business loans. This delay helped to boost profits. In theory, this rise in profits should only be temporary. But it made it easier for a bank to manage future earnings through a “structural hedge”, allowing them to lock in interest rates for several years and smooth profits as rates fall. The result is a more stable and predictable income stream. This improved profitability has transformed how banks manage their capital. After a decade of hoarding cash to satisfy regulations, they are now paying a lot back to shareholders via a mix of dividends and share buybacks. Total shareholder yields, combining dividends and buybacks, now often exceed 10% a year.

Strong recent results from the biggest banks have cast doubt on the idea that upstart digital challenger banks will disrupt them. While the challengers achieved high user numbers and launched attractive software, they lacked the massive and low-cost deposit bases that the traditional banks enjoy. The incumbents used their superior cash flows to adopt the best elements of the digital revolution, investing billions in their own platforms while maintaining the trust and regulatory licences required to dominate high-value lending, such as residential mortgages.

The established banks were also better able to absorb the higher costs of regulation and cybersecurity. For a smaller challenger bank, the compliance burden is often a significant percentage of its total revenue. For a giant bank, it is a manageable operational expense. Some challenger banks, most notably Revolut, have grown to a large size, but the biggest effect of the new banks is a forced modernisation of the older ones.

This combination of rising margins, disciplined shareholder returns and the resilience of the established model has restored the sector's momentum. The banks have demonstrated that they are no longer just safe utilities. They are profit-seeking enterprises with the capacity to deliver high yields to patient investors. The current challenge for investors is to identify which institutions can sustain this performance as the interest-rate cycle matures. The market has recognised the recovery, but the divergence between the winners and the laggards suggests that selection remains critical.

How to navigate the banking market

There are at least three distinct types of banking. Retail banking is the familiar world of the high street, managing residential mortgages and personal savings for millions of customers. Corporate banking offers services to the commercial sector, extending credit to firms and facilitating international trade. Investment banking is a more volatile endeavour that involves mergers, debt issuance and investing in the capital markets. The latter depends on the shifting appetites of the financial markets, which introduces a level of unpredictability that many investors find unsettling. The market typically rewards the steady stability of retail lending with a higher multiple, while it views the inconsistent profits of investment banking with caution.

The main concern for investors is the progression of the interest-rate cycle. Banks generally benefit from rising interest rates because the income they generate from loans increases more quickly than the interest they pay to depositors. However, as rates plateau this advantage often diminishes. Customers eventually move their money from low-interest current accounts into higher-yielding fixed-term products. This shift increases the bank's cost of funding and can lead to a lower profit. Asset quality is another area of vulnerability. Extended periods of high borrowing costs can put pressure on both households and businesses, leading to a rise in loan defaults. The commercial real-estate sector is currently viewed with particular caution, especially in markets where office and retail property valuations have fallen. If a bank has a high concentration of lending in these areas, it may be forced to raise its loan-loss provisions, which hurts profits.

Political and regulatory risks are also a factor. Governments may consider windfall taxes on high bank profits during hard times. Regulators often introduce new rules on capital requirements or consumer protection. Such measures increase operational costs and limit the amount of cash that banks are able to return to shareholders through dividends and buybacks.

Finally, structural shifts in the financial system present long-term challenges. The rise of non-traditional lenders and private credit markets has introduced new competition for corporate lending. Furthermore, the development of digital currencies could alter the traditional deposit-taking model. If consumers begin to hold significant portions of their wealth in digital sovereign currencies rather than bank accounts, the industry's funding costs could rise substantially.

To assess a bank accurately, investors must look past the price-to-earnings ratios used for ordinary companies. Instead, they prioritise the price-to-tangible-book-value ratio. This metric compares the share price against the net value of the bank's hard assets, once intangible items such as goodwill or brand value are stripped away. It provides a realistic view of the bank's worth if it were liquidated today. A bank trading at a discount to this figure suggests that the market believes the management is failing to earn its way, or that the assets on the balance sheet are not as safe as they appear. Conversely, a premium indicates that investors expect the institution to generate superior returns for years to come. In this new higher-interest-rate environment, investors must distinguish between high-quality cash machines and potential value traps.

The efficiency leaders of the banking industry

JPMorgan Chase (NYSE: JPM) remains the undisputed benchmark for the global banking industry. It is the largest bank in the world by a significant margin and is valued at more than double its nearest competitor. This scale allows the firm to simultaneously dominate both investment banking and retail lending. Under the leadership of Jamie Dimon, the bank has maintained a return on equity of nearly 16% while investing billions into its technological infrastructure. While the valuation is high compared with peers, its operational dominance and so-called “fortress balance sheet” provide a unique safety net. It is the go-to investment for those who wish to gain exposure to banking.

Lloyds Banking Group (LSE: LLOY) is a direct bet on the British economy. Unlike its more international rivals, Lloyds Banking Group generates the majority of its profit from domestic retail and commercial lending. Its net interest margin has improved significantly in recent years as it benefited from the shift in interest rates. With a price-to-tangible-net-asset-value ratio of 1.5 times and a healthy return on equity, the bank has become a favourite for dividend-seekers. Its aggressive share buyback policy continues to support the shares even during periods of domestic economic uncertainty.

HSBC (LSE: HSBA) has focused its efforts on the high-growth markets of Asia, which now drive the majority of its earnings. The bank trades at 1.7 times tangible net asset value and delivers a return on equity of 13.7%. For the income investor, the appeal lies in consistent dividends and regular share buybacks. However, the heavy exposure of HSBC to Hong Kong and mainland China remains a double-edged sword. These regions offer superior growth potential, but also introduce geopolitical risks.

NatWest Group (LSE: NWG) has completed its journey from a government-controlled institution back to a fully private enterprise. Many investors will remember the bank as the Royal Bank of Scotland, which rebranded to distance itself from the reputational damage suffered during the 2008 crisis. The bank has shown remarkable profitability recently, with a return on equity approaching 20% in its most recent results. The shares trade at a more modest 1.3 times tangible net asset value, offering an attractive entry point for those seeking exposure to banking. Its focus on digital efficiency has allowed it to maintain a competitive edge.

The recovery candidates

Barclays (LSE: BARC) trades at a discount of 0.8 times to tangible net asset value, despite delivering a return on equity of more than 10%. The market remains cautious regarding its large investment-banking division, which requires significant capital and produces volatile returns, but management recently vowed to return substantial capital to shareholders by the end of this year. If the bank can prove its investment arm is no longer a drag on the retail business, the potential for a valuation re-rating is substantial. It remains an interesting candidate for those looking for value and who are comfortable with higher risk.

UniCredit (Milan: UCG) has emerged as one of the most efficient banks in the eurozone. Under a disciplined management team, the Italian giant has achieved a return on equity of nearly 17%, far outstripping many of its domestic and international peers. It trades at 1.5 times tangible net asset value, reflecting a market that has finally begun to appreciate its streamlined operating model. By aggressively cutting costs and returning capital, UniCredit has proved that a European bank can thrive without the tailwinds of a massive domestic mortgage market.

Deutsche Bank (Frankfurt: DBK) has historically been the sick man of European banking. After years of losses and scandals, the bank has finally returned to consistent profitability, posting a return on equity of 9.2%. Reflecting this, it remains one of the cheapest major banks in the world, trading at just 0.7 times tangible net asset value. The discount is due to its poor reputation, but the structural improvements in its corporate and private banking arms are undeniable. For the patient investor, it represents a bet that the final stages of its turnaround will lead to a revaluation.

The specialists

BNP Paribas (Paris: BNP) is the closest institution Europe has to a diversified American-style giant. It operates a massive corporate and investment bank alongside a stable retail presence across several countries. Trading at 0.9 times tangible net asset value, it offers a diversified stream of earnings and a healthy dividend yield. The bank has successfully used its scale to gain market share as American rivals pulled back from certain European markets. It is a solid choice for those who want exposure to European growth without the concentrated risk of a single-country lender.

Banco Santander (LSE: BNC) has exploited its unique geographic footprint, spanning from Spain to Brazil and the US, to protect itself from regional economic shocks. The bank trades at 1.7 times tangible net asset value and delivers a return on equity of more than 12%. Its diversified model means that when the European economy slows, its Latin American operations often provide a profitable cushion. This geographic spread is its greatest strength, although the complexity of managing such a diverse empire often leads to a slightly lower valuation than its simpler peers.

Standard Chartered (LSE: STAN) provides a unique way to gain exposure to the emerging markets of Asia, Africa and the Middle East. Unlike HSBC, it has a smaller retail presence and focuses more heavily on corporate and institutional banking. It trades at 1.1 times tangible net asset value and has recently exceeded its own profitability targets. It is a primary beneficiary of the rise in intra-Asian trade and is well-positioned to benefit from the ongoing economic development in its core markets. It remains an attractive option for investors looking towards the emerging economies.

Bank of America (NYSE: BAC) is the second-largest lender in the US and serves as a bellwether for the US consumer. It trades at 1.8 times tangible net asset value, a premium that reflects its massive deposit base and its leading position in digital banking. While it is highly sensitive to US interest rates, its diversified earnings from investment banking and wealth management provide stability. It is often seen as a more conservative alternative to JPMorgan Chase for those who want exposure to the American financial system.

Goldman Sachs (NYSE: GS) remains the premier investment bank in the world. Unlike the universal banks, Goldman Sachs is heavily weighted towards merger advice, trading and asset management. This makes its earnings more volatile and dependent on the health of the financial markets. After a period of strategic drift into consumer banking, the firm has refocused on its core strengths. It remains an option for those trying to gain exposure to pure investment banking rather than more traditional lines of business.

The best bank stocks to invest in now

The banking sector has transitioned from a source of risk to a reliable engine of shareholder returns. For those seeking stability, Bank of America offers a good balance sheet and direct exposure to the US economy. Its historical resilience provides a degree of security for investors prioritising long-term capital preservation. Barclays represents a more opportunistic choice. It remains priced at a discount compared with its domestic peers, and the successful execution of its current strategy should allow this valuation gap to narrow, rewarding patient holders. Finally, Standard Chartered serves as a unique vehicle for those desiring exposure to emerging markets. As a UK-listed entity, it provides a regulated gateway to high-growth regions in Asia and Africa.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

Five years ago there were lots of reports about how the finance industry was going to move from London to Paris, Amsterdam or Frankfurt. In the wake of Britain's departure from the European Union, the City would lose its role as the main hub in the finance industry and all the jobs and tax revenues it created. Deals would have to be made within the bloc, and trades would have to settle under EU rules, so there would be little space for a country outside the EU. The only real question was which major city on the continent would take London's place.

But traders and analysts can forget about freshly baked croissants for breakfast and two-hour lunch breaks. It turns out that the US mega-banks are not moving en masse to Paris after all. Last week, JPMorgan started moving some of its staff in Paris back to London. Its chief executive, Jamie Dimon, warned back in 2021 that the bank might well move all its European operations out of the City. Instead, it has been steadily increasing its headcount and building the biggest tower in Canary Wharf to house them all. Its plans to make Paris the centre of operations appear to have been quietly wound down.

It is not hard to understand why. President Emmanuel Macron's promises to carve out a special regime for global bankers have come to nothing. The “temporary” tax surcharge on anyone earning more than €250,000 a year – not much for a star banker at JPMorgan – has been extended for another year. With the government paralysed and a huge deficit to fix, France will have to put up taxes again.

Meanwhile, Amsterdam is about to become a no-go zone for investors. The Dutch city mounted a challenge to London that was every bit as serious as the one from Paris. With its long traditions in finance and a powerful stock market, it attracted a series of high-profile listings, including giants such as Universal Music. But now the Netherlands is planning to extend the capital gains tax at 36% even to unrealised gains. In effect, if your investments go up in value by 10% over the course of the year, you will have to pay a big chunk of that in tax, even if you have not yet cashed them in.

Even worse, you won't be able to claim any kind of refund or allowance if those same investments fall by 10% the following year. In effect, the state will confiscate 10% of your winnings, but it won't share in any of the losses. It will be the most punishing system of capital-gains taxation anywhere in the developed world. It is impossible to see how Amsterdam can survive as any sort of financial or business centre under that regime. As for Frankfurt, there is absolutely no sign of any banks moving to the city and the German economy remains stagnant despite the huge rise in government spending to try and get it growing again.

How the City of London can reclaim the crown

Add it all up, and this is the perfect moment for London to reclaim its place as Europe's main financial hub. There have been modest moves in the right direction. Some of the listing rules have been relaxed, the cap on bankers' bonuses has been lifted and a new junior market in “unquoted companies” has been created. We are promised more reforms in the King's speech later this month. It is a start, even if only a very modest one.

But there are also obstacles: higher income taxes, the ending of non-dom status for finance staff moving from abroad, some of the highest inheritance taxes in the world, and now a higher rate of tax on interest and dividend payments as well. It may well get worse in the next Budget. None of that will do anything to persuade any more bankers to move to this side of the Channel.

The government should be doing a lot more to help. It could introduce a new version of the non-dom regime, perhaps modelled on Italy's flat-rate tax scheme that has helped create a boom in Milan. It could turn the stock exchange into a genuinely light-touch regulatory centre for new listings. Finance remains one of the world's largest industries and one in which Britain has huge residual strengths. Brexit has not damaged it nearly as much as everyone predicted. But the City will have to work a lot harder if it is to reclaim its crown.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

The Bank of England (BoE) has cut interest rates six times since August 2024, bringing the cost of borrowing down for both businesses and individuals.

In their most recent meeting on 18 December, the central bank’s Monetary Policy Committee (MPC) voted 5-4 to cut the base rate by 25 basis points, bringing it to 3.75%.

Whether the base rate will continue falling in 2026 is yet to be seen, but consumers are already feeling the impact of lower rates on their own finances.

Whether that be in lower interest rates on their savings accounts, or slightly lower mortgage payments, the decisions made by the MPC have an impact on your personal finances.

What is the bank rate and why is it important?

When we talk about the BoE lowering interest rates, this refers to what is called the ‘bank rate’, or the ‘base rate’.

The bank rate is the core interest rate in the UK, and is the rate of interest the BoE pays to commercial banks, building societies, and financial institutions that hold money with the central bank.

The bank rate is also the interest rate that the central bank charges on loans made to other financial institutions, therefore affecting their own lending and savings rates.

This second point is the most important one for individuals, as the knock-on effect of the BoE lowering or raising the bank rate is that you will pay more or less on loans you take out, or earn more or less interest from your savings.

The reason that the BoE moves interest rates is typically to achieve certain economic goals for the country. The most important of these, but not the only one, is achieving the bank’s target inflation rate of 2%.

Broadly speaking, when inflation is too high, interest rates will be raised in order to rein in consumer spending and push down demand.

For example, this may mean your mortgage payments increase and you therefore have less money to spend elsewhere. Meanwhile, people are also encouraged to save more money and make the most of higher interest rates.

On the other hand, interest rates may be lowered in order to try to stimulate the economy and encourage people to spend more – mortgage payments will be lower and savings rates will be far less appealing.

This may be done when inflation is below target, but could also be done to bring the base rate back down to a neutral level.

What do falling interest rates mean for mortgages?

A drop in the bank rate generally translates into cheaper mortgages as financial institutions are able to borrow money for less, and are therefore able to lend money to consumers for cheaper too.

Of course, whether or not you will be able to feel the effect of lower interest rates will depend on the type of mortgage deal that you agreed to.

Those who choose a standard variable rate mortgage will most likely see their mortgage rate go up or down when the Bank of England moves rates, though not necessarily by the same amount as the base rate as banks tend to predict where rates will go before the MPC meets and raise or lower rates in anticipation of this.

As the name suggests, a tracker rate mortgage tracks the BoE’s base rate, plus a few percentage points. That means that movements in how much you pay are directly linked to decisions made by the MPC – if they decide to cut rates by 25 basis points, your mortgage rate will fall by the same amount.

Finally, those who are locked in on a fixed rate mortgage will not see any difference in their interest rate until they reach the end of their term and negotiate another fix. Fixed rate mortgage rates also tend to follow the BoE’s lead with rate cuts.

What do falling interest rates mean for savings?

When the Bank of England cuts interest rates, savings rates also often fall, making putting money away into a savings account less attractive.

If the bank rate is high – like it was for much of 2023 and 2024 – savers tend to enjoy very good interest rates on their savings.

For example, in October 2023, the bank rate was 5.25% after being hiked through 2022 and 2023. With a higher base rate, savings rates also increased, with the average one year fixed rate ISA paying an interest rate of 5.48%, according to analysis by Finder.

But the opposite is also true. When the bank rate is cut, the top savings deals disappear from the market.

As of 2 January, as the BoE has eased interest rates since the summer of 2024, the average one year fixed rate savings account pays just 3.84% interest, according to figures from Moneyfacts.

With more paltry interest rates, consumers have a more difficult time finding inflation-beating savings accounts. This is particularly difficult when the BoE cuts the bank rate when inflation is high.

Sarah Coles, head of personal finance at Hargreaves Lansdown, says that when interest rates are falling, it is important you make sure your money is working hard for you in a high interest account.

She said: “If you have savings, keep an eye on the rate you’re earning. The high street banks haven’t been slow to cut rates, and some are offering just 1% right now. More competitive accounts have held up far more robustly, but some of them will be on the move too. If your bank cuts your savings rate, don’t just resign yourself to it. Not all banks are equal and there are still easy access rates well over 4% on offer.”

See our guide to the best easy-access rates, one-year savings accounts, regular saver accounts and cash ISAs for the latest deals on cash savings.

Those who are wanting to save for the long term could also consider starting to invest some of their savings.

While the value of investments can go up as well as down, a well-balanced portfolio often provides higher returns than you would get by just leaving your money in a savings account. We take a closer look in our guide on saving versus investing.

What do falling interest rates mean for annuities?

Annuities are a way of turning your pension pot into a guaranteed income for life. You buy an annuity by using some or all of your pension savings.

How much income you get in exchange for your pot depends on annuity rates. These are linked to UK government bond yields, which are in turn linked to the Bank of England base rate. A cut in interest rates generally translates into a fall in annuity rates.

As interest rates rose from 2022, the annuity market experienced a period of unprecedented strength. 2025 was a strong year for the annuity market, with incomes hovering close to all-time highs.

The latest data from Hargreaves Lansdown shows that a 65-year-old with a £100,000 pension can get up to £7,667 per year from a single life level annuity with a five-year guarantee.

But as interest rates fall, so will annuity rates, removing them from the highs they experienced in a rising interest rate economy.

This being said, Helen Morrissey, head of retirement analysis at Hargreaves Lansdown said that despite December’s rate cut, “annuities remain good value, and we can expect to see interest continue from people in search of a guaranteed income”.

How has monetary policy shifted?

Over the past 25 years, monetary policy in advanced economies has undergone an astonishing, unprecedented transformation – dramatically changing in both scope and scale, and blurring the boundaries with fiscal policy. When MoneyWeek published its first edition, there was a broad consensus on inflation targeting, operational independence for central banks and faith in the ability of short-term interest rates to stabilise output and prices. But those turbulent 25 years have seen a radical shift. From the “Greenspan put” to quantitative easing (QE – printing money to buy government debt), monetary policy has evolved in ways that are highly controversial and politicised. Central banks today have vastly higher balance sheets, in some cases manage entire yield curves (that is, use policy to influence rates across different maturities of government bonds, not just short-term rates) and openly coordinate with fiscal authorities in emergencies.

Why is this controversial?

Because, critics argue, the gigantic balance sheets held by unelected central banks as the result of QE, and their “unconventional” monetary policies, have inflated asset-price bubbles, fostered inequality, led to misallocation of capital, and masked unsustainable public finances. Long-term, the chief purpose of monetary policy is to inspire confidence in the value of money by encouraging price stability. In the short or medium term, the aim of policy is to keep the real economy stable – supporting sustainable growth and employment – and to contain risks. Since the turn of the century, however, independent central banks have radically over-interpreted that brief by consistently coming to the rescue of equities and debt markets in ways that have distorted business cycles and deferred pain. Emergency measures have become the norm, and central banks have ballooned.

How have central banks expanded?

For almost the whole of the 20th century, the central-bank assets of advanced economies, as a proportion of economic output, remained remarkably constant, at around 10%-13% of GDP. But in the aftermath of the great financial crisis of 2007-2008 – as governments everywhere turned to QE – that proportion surged, rising above 20% in 2009-2010. And rather than falling back to normal levels as the crisis stabilised, that proportion then doubled once more during the 2010s to 40% – before spiking up to 70% in the aftermath of Covid. Even by 2024, it was still 50%. That’s a revolutionary change in the size of central banks’ financial assets within a couple of decades. Historically, balance sheets merely reflected operations. Now, they are strategic levers shaping long-term yields and risk premiums – a fundamental conceptual shift.

Was QE justified?

Yes, in the immediate aftermath of the financial crisis, decisive action by central banks was vital in stabilising economies and preventing deflation, says Andy Haldane in the Financial Times. By contrast, “later-stage QE, including purchases made in response to Covid, is harder to justify. With fiscal policy highly expansionary, QE’s primary purpose was to placate fretful bond markets rather than boost inflation” – a worrying step towards “fiscal dominance”. Vincent Reinhart, the chief economist at BNY Investments, co-authored two research papers on QE with Ben Bernanke, chairman of the Federal Reserve from 2006-2014, who instituted QE following the financial crisis. “We did not include a section on how to get out of the policy, or the risks stemming from it,” he now says. “That was a mistake – it was a lot stickier than I thought going in and has opened up a range of complications and potential political influences on monetary policy.”

So it’s been hard to get out of?

Indeed. The current era of gigantic public debt has blurred the lines between monetary and fiscal policy, since rate rises (or quantitative tightening) put up debt-servicing costs and infuriate the likes of Donald Trump. In the UK, quantitative tightening triggers indemnities that require the Treasury – ultimately, the taxpayer – to cover central-bank losses. In addition, by pushing up gilt yields, it makes it more expensive to the Treasury to borrow and service its debts. That makes monetary policy more politically charged than ever, and the target of populists who regard central bankers as sources of unelected and illegitimate technocratic power.

What are the limits on monetary policy?

Conventional monetary policy is a famously blunt tool. It has become blunter in recent decades. Financial globalisation and the absorption of China into the global economy, technological change and demographic ageing have lowered real rates. There’s been a relative decline in floating rate debt, meaning rate changes do not necessarily feed through into the wider economy. And rate-sensitive capital-intensive sectors, such as manufacturing and construction, have diminished in favour of services, which are more labour-intensive and less responsive to interest rates, says Marco Casiraghi, director at Evercore ISI. All of this makes monetary policy harder to frame and execute with confidence.

A tough gig, then?

The Bank for International Settlements says that everyone, from governments to central banks to investors and consumers, needs to become more realistic about monetary policy. The idea that it alone can underpin growth is an “illusion”. And the trade-offs that monetary policy involves will “become unmanageable” without “more holistic and coherent policy frameworks in which other policies – prudential, fiscal or structural – play their part”. Central bankers may be even more powerful than 25 years ago. But in an ever more complex and turbulent century, even they recognise that they are not magicians.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

Over the past couple of weeks, we have seen unusually open debates and divergent views about the path of short-term interest rates among the committee members of the US Federal Reserve (the Fed) and the Bank of England (BoE). Professional Fed watchers are in a spin. What is the problem all of a sudden? And why is the debate happening so publicly? Where is the certainty previously displayed by these policymakers, always confident that they can control inflation via the setting of short-term interest rates? All is not right in the rarefied world of central banking.

The cornerstone of monetary policy in recent decades has been the perceived independence of central banks from political influence. The idea was that we could trust politicians more if our monetary policy was set and executed by an independent technocratic committee of experts acting in the public interest. UK gilt investors welcomed this initiative in 1997 when Gordon Brown granted the Bank operational independence.

But things have changed. The UK electorate has grown to distrust its politicians and its institutions. The British Social Attitudes Survey in 2000 showed that 35%-40% of adults believed that the government would put the country’s interests first. Last year, the same measure was 9%-14%, with 58% saying that they rarely trusted politicians to tell the truth.

The hard truth is that a central bank cannot function without government funding and authority, and cannot be genuinely independent. Most bond investors understand this; however, it has, until recently, been what we might call uncommon knowledge. Things have changed, and the notion of central-bank independence is being openly questioned – primarily in the US, but also increasingly in the UK.

Fiscal dominance

Donald Trump lives in the public domain. He became a household name via reality TV and conducts public policy via social media. Conventionally, it’s thought that like sausages, government policies are better not seen being made. However, Trump does things differently and since April, has variously referred to his Chair of the Federal Reserve on Truth Social as “Jerome ‘Too Late’ Powell”; “Too Angry, Too Stupid, & Too Political”; “TOTAL LOSER”; “A FOOL”; “Stubborn MORON”; “and “the Worst”.

From a political perspective, what the electorate is witnessing might be the consequence of trying to divert public attention, maybe from the bombing of Iran or the contents of the “Epstein files”. However, the underlying economic driver here is what economists call fiscal dominance. As Ray Bourne, of the Cato Institute, puts it: “Under fiscal dominance, monetary and financial policies get subordinated to support the government’s financing needs, with more tolerance for high inflation... long-term, the graver danger to central bank autonomy isn’t Trump’s tweeting – it’s US politicians’ borrowing.”

In short, beyond the event horizon of out-of-control sovereign debt, accepted rules and market correlations stop functioning. Just like in a black hole where the accepted laws of physics no longer apply, so too in a world of fiscal black holes, the accepted norms of central banking monetary policy stop working. For context, the US federal deficit has increased by $1 trillion, or 2.8%, since the passage of the “big beautiful bill”, and the raising of the debt ceiling last month, and now stands at $37.2 trillion.

The annual campout for the world’s under-siege central bankers in Jackson Hole later this month can’t come soon enough. This year’s theme is “Labour Markets in Transition: Demographics, Productivity, and Macroeconomic Policy”. But between official proceedings, time will be found to discuss the real agenda occupying them: how do we remain independent, or at least appear to be independent, and how can we pretend inflation targeting is even possible in a fiscally dominant world?

While Trump overtly undermines, insults and publicly humiliates his Fed chairman, in the UK, we do things more subtly. This week, both Keir Starmer and Rachel Reeves claimed the Bank’s ambiguous “hawkish cut” decision to lower UK policy rates as evidence of their successful stewardship of the UK economy. It was, they said, all part of their orchestrated plan to put the UK on a more secure economic footing.

Aside from the (lack of) independence point, there are two issues here. First, market interest rates that set the government’s cost of borrowing rose sharply following the BoE decision. UK gilt yields from one-year to 30 years’ duration rose as the bond vigilantes sharpened their axes. Second, the BoE’s governor, Andrew Bailey, said with a straight face that he thought that they needed to cut rates even though he expects inflation to “temporarily increase” to 4% next month. Is this the same as transitory? Note that the UK’s inflation rate has been above target in 48 out of the last 50 months. Sure, the world is getting riskier, but their models are no longer fit for purpose in a fiscally dominant world, nor are their proponents.

The pretence under which the Fed and BoE operate is becoming too obvious to ignore. Their work is increasingly conflicted with their fiscally irresponsible political masters, who can no longer afford for their independent monetary experts to achieve their mandates. So say goodbye to the era of central bank orthodoxy and hello to the new era of central bank dependency. There’s a new boss in town with different ideas. As they might say in Wyoming, inflation ain’t going nowhere. There’s a new sheriff in town, and he kinda likes it.

A version of this article was first published by wealth management group Dowgate Wealth.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

Navigating financial markets requires a reliable set of instruments. Unfortunately, the pandemic exposed the shortcomings of even the most long-running data series. We have to accept that our statistical indicators have struggled to keep up with the pace of technological change, and have to adjust our course accordingly. It’s time to move from log tables to GPS.

The normally staid world of statistics was rocked by US president Donald Trump conducting yet another round of his reality-television show The Apprentice, when he fired the US commissioner of labour statistics. However, the US bureau of labour statistics (BLS) had already been struggling for some time. Over the last 18 months, it has “inadvertently” released inflation data early, posted the annual employment revisions late and informed some financial institutions (referred to by a BLS employee as “super users”) about details in the data that others might have missed. It has been a torrid time, even before Trump’s return.

At least the president is grasping the nettle of change. The UK remains without a permanent “national statistician”, after the prior holder, Sir Ian Diamond, resigned early for health reasons. The UK also remains without its main employment indicator ever since the Labour Force Survey (LFS) was withdrawn in October 2023. Its replacement might not be ready until 2027. The Bank of England has been left to cobble together its own version as the monetary policy committee unsurprisingly “continues to place less weight” on the official LFS data.

The problem with the data comes down to how it is collected. A letter is sent to households and then followed up by a phone call or an in-person interview. During Covid, this led to the response rate falling as low as 17%, but it has failed to recover enough to ensure the data is reliable. Who would respond to a phone call in the modern world – let alone a letter?

A small miscalculation can cost a lot

It’s not just citizens who cannot be relied upon. The Office for National Statistics (ONS) had to announce that April’s UK CPI data was inflated by 0.1 percentage points owing to an error in vehicle excise duty provided by the Department for Transport. Someone, somewhere in some spreadsheet, had overstated the number of vehicles subject to this duty in their first year of registration. On such small miscalculations can our navigation plot the wrong course; fortunes can be won or lost. The yield on short-dated index-linked gilts moved by several basis points on entirely the wrong information. Financial markets are volatile enough without supposedly reliable data adding to the confusion.

Statistics are supposed to be the signal within the noise: staging posts around which we divine where the path ahead lies. But what if we are looking at the completely wrong map? The world has changed utterly in the last five years. We were already in the midst of a multi-decade “technological revolution” when Covid arrived and accelerated the paradigm shift. Working remotely and conducting relationships entirely virtually encouraged resources to be deployed into fresh technology such as AI. With each step forward in computational power, we have taken a leap forward in our evolution.

In the new world, it makes less sense to monitor indicators such as the manufacturing cycle. Investors have long referred to the US ISM Manufacturing data as a bellwether for the US economy: it has been available since 1945 and has demonstrated a strong correlation with the US business cycle. With economics only a social science, experiments cannot be repeated in laboratory conditions – but a survey running for eight decades is about as good as it gets... until a once-in-a-century pandemic forces the economy to shut down and re-open again.

In one year, the ISM Manufacturing number plunged to a 12-year low and then surged to a 40-year high. A survey is only a sentiment indicator, not a hard gauge of activity. Firms went from staring disaster in the face to sheer relief once the fear wore off and vaccines emerged. There was no business cycle, no smooth journey from bust to boom. It was simply a shock. The ISM data told us very little about it.

We are still living through the consequences of that shock as the economy finds a new post-Covid equilibrium. Physical borders have been reimposed as technology spreads intangibly between consumers all over the globe. Indebted governments of ageing nations are struggling to marshal ever more scarce resources towards the drivers of growth. A basis point on unemployment or inflation no longer makes the marginal difference. The old data we have relied on for decades is making it harder to spot the path ahead.

Technology should make it easier to update, collect and disseminate information in a quick, clear and fair fashion. Real-time updates could come from Google mobility data, aggregated credit-card spending, LinkedIn and Indeed job postings, energy usage, or even satellite imagery of carparks and warehouses. If we can order food, taxis and romantic partners from an app in the palm of our hand, then technology companies should be able to publish aggregated activity data fairly easily. Losing trust in statistics will leave us all at sea. Technology ensures we can recalibrate before we drift too far off course.

Helen Thomas is the founder and CEO of Blonde Money, a macroeconomic consultancy.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

Currently, the best fixed rate cash ISAs can help you grow your tax-free savings and are returning up to 4.72% on your cash.

ISAs are some of the best savings vehicles you can use in the UK, as they allow for up to £20,000 of tax-free savings a year.

If you're seeking the best cash ISA with a fixed rate, we list the top options currently on the market. We look at how many ISAs you can have in another guide.

Best 1 year fixed rate cash ISAs

If you’re willing to lock away your money for one year without withdrawing any of it, you could grow your savings by up to 4.7%.

Best cash ISAs up to 18 months

If you are after an account that keeps your money growing for up to 18 months, you can earn up to 4.32% using one of the following savers.

Best 2 year cash ISAs

Two-year fixed rate ISAs are a good option for people who want to grow their money in the medium term without worrying about micro-managing their savings. Savers can earn up to 4.71%.

Best 3 year fixed rate ISAs

Savers who are willing to lock their cash away for three years can access interest rates of up to 4.66% by using one of the following savings accounts.

Best 4 year fixed rate ISAs

If you’re putting your money away for four years, you can earn up to 4% using one of the following accounts.

However, it is worth bearing in mind that if you are willing to keep your money in savings for an extra year, you can access a higher interest rate of 4.72%.

Best 5 year fixed rate ISAs

A five-year fixed-rate ISA is a good option for long-term savers who are trying to save towards a financial goal in the future.

The following accounts allow for up to 4.72% returns on your savings.

The interest rate hiking cycle has ended - or that’s what it looks like anyway following the latest decisions from the European Central Bank, Bank of England and Federal Reserve. 

In the past week, all of these central banks have announced they’re pausing one of the most aggressive rate hiking cycles in the history of independent central banks. The BoE’s monetary policy committee (MPC) held the base rate at 5.25% at their meeting yesterday, the second meeting they’ve kept rates constant. 

Only the day before, the US Federal Open Market Committee voted to keep rates on hold for the second time, at a 22-year high of 5.25-5.50% (unlike the BoE, the Fed sets a range for its Fed Funds rate). And last week, the ECB held rates at 4%. 

All three of these leading central banks have hiked rates from zero over the past 18 months, as they’ve tried to bring inflation under control.  

Inflation begins to fall  

So far, the medicine seems to be working. Eurozone inflation dropped to a two-year low in October of 2.9%, from 4.3% a month earlier. Meanwhile, inflation dropped to 3.7% in the US for the 12 months ended September. 

Here in the UK, inflation has proved tougher to control. Since CPI inflation reached 11.1% in October last year it has fallen by more than 4 percentage points, although it flatlined at 6.7% in September. Inflation has remained sticker in the UK due to the energy price cap, which works with a lag. 

Unlike the US and Eurozone, where lower energy prices have already filtered through to consumers and businesses, the price cap is preventing prices from falling as fast here in the UK.

As energy is a big component of the inflation figures, this is something policymakers will be taking into consideration when setting interest rates. 

Higher interest rates are starting to have an impact 

Inflation is just part of the equation for central bankers. While The Fed, BoE and ECB all have a mandate to keep inflation under control, they don’t want to crush their respective economies at the same time. So they have a tough balancing act to practise.

That said, coming off the pedal too early could reverse much of the progress they’ve already made in the fight against inflation. BoE governor Andrew Bailey has said rates must stay, “sufficiently restrictive for sufficiently long”. He’s also recently added, “It’s far too early to be thinking about rate cuts.” 

Across the pond, Fed chairman Jerome Powell has summarised the Fed’s stance as being “not confident we have reached sufficiently restrictive [financial conditions], but not confident we haven’t”.

The markets have a bit of a different view. The market is pricing in interest rate cuts starting in the second half of next year and is only assigning a slim chance to further rate increases from both the BoE and the Fed. 

There are signs on both sides of the pond higher rates are starting to have an impact on economic growth. In the UK in particular, activity in the construction sector has fallen off a cliff and consumers are pulling back on spending as higher interest rates bite. It’s also more appealing than it has been for over a decade to save rather than spend (one of the main reasons why interest rates are so effective at controlling prices). 

Higher interest rates mean it’s more expensive for companies and consumers to borrow money to spend and invest, which reduces demand, forcing businesses to lower their prices. While inflation remains high in the UK, shop price inflation has been falling, suggesting part of this equation is already playing out as businesses compete for customers’ shrinking spending power.  

An upcoming election  

The BoE will have this in mind when it’s thinking about interest rates going forward. If businesses have to fight for consumers' money, business activity in the economy will fall (as is already happening in the construction industry) and that could lead to a recession. Higher interest rates are already forcing the government, which relies of debt to fund the day-to-day running of essential services, to consider benefit and spending freezes. 

With an election coming up, the government may start putting pressure on the BoE to cut rates, or at least hold off on any further rate increases to avoid sending the economy into a recession or driving harsh spending cuts in 2024. 

All in all, there’s a chance the BoE could push rates higher in the coming months if inflation surprises to the upside, but with risks to the economy growing, and inflation falling in the rest of the world, (which will filter through to the UK over time) the central bank may decide to hold off on any further changes or even cut in 2024. 

The Bank of England has held interest rates at 5.25% for the second time in a row.

It was a widely expected move; money markets had placed a 92% chance that rates would be left unchanged.

September’s inflation figures, which revealed that inflation had stayed at 6.7%, took some pressure off the Monetary Policy Committee (MPC) ahead of its meeting.

The MPC voted by a majority of 6–3 to maintain the base rate at 5.25%. Three members preferred to increase the rate by 0.25 percentage points, to 5.5%. 

It means rates continue to be at a 15-year high.

The notes of the MPC meeting said there were “upside risks to inflation from energy prices given events in the Middle East. Taking account of this skew, the mean projection for CPI inflation is 2.2% and 1.9% at the two and three-year horizons respectively”.

It added: “Further tightening in monetary policy would be required if there were evidence of more persistent inflationary pressures."

By leaving rates unchanged while continuing to flag the possibility of further tightening to come, the Bank is indicating that it remains in “wait and see” mode. 

Governor Andrew Bailey also warned that it was "much too early to be thinking about rate cuts".

The Bank's actions follow the Fed’s decision yesterday: it held its key interest rate at 5.25%-5.5%, a 22-year high.

Homeowners will be breathing a sigh of relief that the relentless interest rate rises seem to have come to an end. The Bank of England has been hiking rates since December 2021. Two years ago, rates were just 0.1%.

Mortgage rates have soared to reflect the rising base rate, although many lenders have cut rates recently due to the base rate now being frozen. 

The average two-year mortgage rate is currently 6.3%, according to the analyst Moneyfacts. The average five-year fix is 5.87%.

WHAT IS THE OUTLOOK FOR INTEREST RATES? 

Many experts believe we have now reached the top of the rate rise cycle.

The consultancy Capital Economics expects the base rate to stay on hold at 5.25% until next November. 

Paul Dales, chief UK economist at the consultancy, comments: “By leaving rates at their 15-year high of 5.25% for the second time in a row, the Bank all-but confirmed that rates have peaked." He also highlights that it was a 6-3 MPC vote compared to the 5-4 vote in September, with three rather than four MPC members preferring a rise in rates to 5.5%.

Dales adds: "We think the economy will be weaker than the Bank expects over the next six months (a mild recession may already be underway), which will sow the seeds for a sharp fall in core inflation and wage growth in late 2024 and in 2025. That’s why we expect interest rates will be cut all the way to 3% in 2025 rather than to the 4.25-4.5% implied by market pricing."

The Bank of England's November Monetary Policy Report, released at the same time as today's interest rate announcement, notes that the base rate has a "market-implied path that remains around 5.25% until Q3 2024 and then declines gradually to 4.25% by the end of 2026, a lower profile than underpinned the August projections".

Colleen McHugh, chief investment officer at the investment platform Wealthify, comments: “Although we may be at the peak of interest rates in this rate cycle, discussions about further tightening are likely to persist, given uncomfortably high services inflation. Indeed, it was made pretty clear today that interest rate levels are going to remain in place for ‘an extended period’. Gilt yields fell back marginally in relief with the pause, with sterling fairly muted.”

There is one more interest rate announcement to come this year, on 14 December.

For all the dates of next year’s MPC meetings, read Key dates for 2024: here are the dates you need to know when managing your money. 

WHAT DOES A RATE FREEZE MEAN FOR HOMEOWNERS?

First-time buyers, homeowners on variable or tracker mortgage deals, and those about to remortgage will be happy that interest rates have not been hiked today. About 2.2 million homeowners are on variable-rate mortgages.

Fixed mortgage rates have already been falling. According to Katie Brain, consumer banking expert at data firm Defaqto, the best two-year fixed rates have dropped by 0.83 percentage points over the past two months. And there are now more five-year fixed-rate deals below 5%. 

“Hopefully this means the mortgage market is starting to stabilise a bit, especially with Nationwide reporting that house prices have begun to slightly rise too,” she comments.

Those on a standard variable rate (SVRs) will still be facing sky-high mortgage costs. These are the most expensive mortgages; homeowners who do not take out a new deal at the end of their tracker or fixed mortgage automatically move onto their lender’s SVR. 

The average SVR has rocketed from 4.41% two years ago to 8.19% today, according to Moneyfacts. 

If you’re on an SVR, contact your lender or mortgage broker to discuss your options and find out if you can switch to a cheaper rate.

Homeowners taking out a new mortgage or remortgaging might be considering opting for a tracker deal now, in the hope the Bank of England cuts rates more rapidly than expected and they enjoy falling mortgage costs. 

However, Laura Suter, head of personal finance at the investment platform AJ Bell, points out: “What the past few years have taught us is the economy and its outlook can change rapidly, so tread with caution when betting a huge financial decision on current expectations.

“Tracker mortgages can be a great option if you want more flexibility, know that you might want to get out of the mortgage sooner or want to overpay by more than the usual limits. But if another interest rate hike would take you beyond your affordability limits, picking a fixed-rate deal might be better for you. Just because rates are not expected to rise further, things can change and it isn’t a cast-iron guarantee.”

WHAT DOES THE RATE FREEZE MEAN FOR SAVERS?

Savers are enjoying the highest rates in 15 years. A handful of easy-access savings accounts are paying above 5%, while you can get more than 6% on a one-year fixed account and 8% on the best regular saver account.

However, the interest rates on some fixed-rate savings accounts have been falling recently, and some providers have even withdrawn their top deals.

So, if you spot a savings account you like the look of, you may need to act quickly to secure it.

“The news for anyone who has been waiting on the sidelines for even higher rates is: act now while stocks last,” notes Suter. 

“The same is true for those wanting to get a good easy-access account. While the rates are variable and could be cut at any time, it’s a good idea to nab the top deal now rather than holding out for a huge increase. The reality is while there may be some very small increases in savings rates, the general trend is going to be for a plateau and then fall.”

Stephen Sillars, savings and investment editor at wealth app Chip, stresses that "no action from the Bank of England doesn’t mean savers should fall victim to inertia", adding: "Interest rates on savings have risen throughout the year, so it’s important to make sure your bank hasn’t left you behind."

Over the past 18 months, the Bank of England (BoE) has hiked interest rates from 0.1% to 5.25%, but after driving one of the most aggressive rate cycles in history, the central bank hit pause at its last meeting. 

The Monetary Policy Committee (MPC), responsible for setting interest rates, held the key rate at 5.25% when it last met in September. The next rate-setting meeting is Thursday, 2 November 2023. 

The Bank of England’s balancing act  

The MPC faces a tough choice when it next meets. 

One of the main aims of the central bank is to keep inflation at or around 2%, which it does by increasing or reducing interest rates. Inflation has slowed this year, falling from a high of 10.7% printed toward the end of 2022 thanks, in part, to the BoE’s aggressive hiking cycle. 

However, the most recent data showed inflation held steady at 6.7% in September thanks to rising petrol prices, bucking forecasts for a further slowdown.

This trend could further complicate the BoE’s decision. The UK and other global economies are facing the threat of conflict across the Middle East, which could spike oil and gas prices, cause another supply-driven inflation shock, and impact confidence, hitting the country’s fragile economy.

GDP grew just 0.2% in August, following a 0.6% quarter-on-quarter fall in July, and consumer, as well as business confidence, has continued to fall, suggesting the economy is only getting weaker. Meanwhile, the UK's wage growth is notably higher than in the US and the eurozone, suggesting inflation could remain sticky.

The “Table Mountain” approach  

While it’s unclear at this stage which direction the BoE will take, its chief economist, Huw Pill, has referred to their preferred approach as the "Table Mountain" strategy, named after the flat-topped landmark in South Africa, which reflects their plan to sustain high-interest rates until the inflation threat subsides.

This strategy aims to prepare the UK public for a prolonged period of high borrowing costs to significantly suppress inflation rather than destabilising the economy with sharp rate hikes followed by steep cuts.

The BoE’s decision will likely have a different impact on different assets. Here’s how markets could react to the central bank’s next rate decision. 

How assets could react to the next interest rate decision  

Sterling

Sterling dipped to an all-time low against the US dollar last year amid the turbulence of the short-lived Lizz Truss government. 

While the pound has recovered over the past year, it remains under pressure due to the UK's fragile economic position and the growing divergence between the UK economy and the US economy. 

If the BoE decides to hold or cut interest rates, it could signal further weakness ahead for the pound against the dollar and other currencies. 

However, if the central bank abandons its dovish stance, and decides to hike rates further after September’s decision to hold, it could be good news for the pound. 

Real estate stocks

Real estate stocks, such as housebuilders and real estate investment trusts (REITs) could see some buying if the MPC holds interest rates at their current level. 

Higher rates are already having a noticeable impact on the UK’s property market, with house prices weakening and construction activity falling. 

If the BoE decides to hold rates at 5.25% at the next announcement, it could be a net positive for the sector as it’ll remove uncertainty around future financing costs and promote stability in the mortgage market. 

On the other hand, a hawkish hike or hawkish commentary from the MPC could lead to higher costs for mortgage borrowers and depress overall sentiment in the sector. 

Bank stocks 

UK bank equities could see a bid off the back of another BoE hike as they’ll be able to increase the rate of interest they charge to borrowers when taking out loans. They’ll also be able to earn a higher rate of return on their reserves, which are mainly held at the BoE and invested in short-term government securities. 

That being said, if higher rates start to have a detrimental impact on the UK economy, banks will suffer as the demand for loans will fall and lenders may have to increase loan loss provisions as borrowers fall behind on repayments. 

UK gilts 

UK gilt prices move inversely to interest rates, and as the BoE has hiked rates, gilt prices have slumped with some longer-dated issues losing as much as 70% of their face value (longer-dated gilts, such as 50-year issues, are far more sensitive to higher rates. While the price can vary during the life of the issue they’re redeemed at par at the end of their life.)

If the MPC decides to push interest rates higher, UK bonds are likely to continue to sell off. The cost of government debt will also rise, good news for savers but bad news for the government’s financial position. 

At the same time, investors will be looking for further commentary around the BoE’s bond sales programme, or quantitative tightening. 

In September the MPC unanimously agreed to raise the pace of its quantitative tightening process for the year ahead from £80bn in 2022-23 to £100bn in 2023-24 - putting further selling pressure on bonds. A slowdown in sales will be favourable for bond prices. 

To prepare yourself for what could be a big week for the BoE and UK assets, visit IG to use their powerful trading tools to get ahead of the market, plan and execute your trades. 

Your capital is at risk. CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 69% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you can afford to take the high risk of losing your money.

The Bank of England has held the base rate at 5.25%, ending its run of 14 consecutive hikes that began in December 2021.

Investors had been split over whether the Monetary Policy Committee (MPC) would increase rates, or keep them at 5.25%, after data this week showed a surprise slowdown in price rises.

Inflation was revealed to have fallen from 6.8% to 6.7% in the year to August.

The MPC also seemed divided over whether to pause the rate hikes. The MPC voted by a majority of 5–4 to maintain the base rate at 5.25%. Four members preferred to increase the rate by 0.25 percentage points, to 5.5%.

The committee also voted unanimously to reduce the stock of UK government bond purchases held for monetary policy purposes, and financed by the issuance of central bank reserves, by £100 billion over the next 12 months, to a total of £658 billion.

The notes of the MPC meeting said: “CPI inflation is expected to fall significantly further in the near term, reflecting lower annual energy inflation, despite the renewed upward pressure from oil prices, and further declines in food and core goods price inflation.” 

It went on to say that “given the significant increase in Bank rate since the start of this tightening cycle, the current monetary policy stance is restrictive”, but warned that “further tightening in monetary policy would be required if there were evidence of more persistent inflationary pressures”. 

Homeowners will be breathing a sigh of relief that the relentless interest rate rises have, at least for now, finished.

Mortgage rates had soared to reflect the rising base rate, although some lenders have started to cut rates in recent weeks. 

The average two-year mortgage rate is currently 6.58%, according to the analyst Moneyfacts. The average five-year fix is 6.07%.

WHAT IS THE OUTLOOK FOR INTEREST RATES? 

Some economists are predicting that we have now reached the top of the rate rise cycle.

Paul Dales, chief UK economist at Capital Economics, comments: “The surprise decision by the Bank of England to leave interest rates unchanged at 5.25% today probably means that rates are already at their peak.”

Others believe the Bank still has work to do to get inflation back down nearer its 2% target, which could mean further rate rises. 

However, most of the talk is now around when interest rates will start to be cut. Economic forecasting group EY Item Club expects interest rates to fall in the second half of next year. Others think the central bank will hold rates at 5.25% throughout 2024.

Dales adds: "We think rates will stay at this peak of 5.25% for longer than the Fed, the ECB and investors expect, but that when rates are cut in late 2024 they will be reduced further and faster than widely expected."

Rob Clarry, investment strategist at wealth manager Evelyn Partners, comments: "In the absence of further shocks, it looks like the BoE is now at, or very close to, the end of its hiking cycle. Attention will now turn to rate cuts, although markets are only pricing one 25-basis points cut by the middle of 2024. This is consistent with our expectation that the Bank will keep policy tight through 2024 as they continue to fight inflation."

There are two more interest rate announcements to come this year: 2 November and 14 December.

WHAT DOES A RATE FREEZE MEAN FOR HOMEOWNERS? 

First-time buyers, homeowners on variable or tracker mortgage deals, and those about to remortgage will be cheering the news that interest rates have not been hiked today.

Having said that, mortgage rates remain high. Compared with December 2021, those on a tracker mortgage are paying £540 more a month, or £299 more a month on a standard variable rate (SVR).

SVRs are the most expensive mortgages; homeowners who do not take out a new deal at the end of their tracker or fixed mortgage automatically go onto the lender’s SVR. According to research by the credit broker TotallyMoney, Virgin Money’s SVR is an eye-watering 9.49%. Metro Bank charges 8.75% while Barclays has an SVR of 8.74%.

About 679,000 residential mortgage customers are on their lender’s SVR.

The majority of mortgage holders are on fixed deals, and many of these will have cheap rates of less than 3%. Millions of fixed deals are due to expire this year and next, which could trigger a large hike in payments when those homeowners come to remortgage, given that average mortgage rates are now north of 6%.

Danni Hewson, head of financial analysis at the investment platform AJ Bell, notes: “It’s important to remember the impact of these rate hikes is a slow burn. What has been done over the past 14 meetings is only just being felt by many businesses and homeowners, with half a million of the latter dreading the anticipated Christmas present of increased mortgage payments at the most expensive time of the year.”

WHAT DOES THE RATE FREEZE MEAN FOR SAVERS? 

Savers have had a good run, thanks to almost two years of base rate hikes. 

Several easy-access savings accounts are paying above 5%, while you can get more than 6% on a one-year fixed account and 8% on the best regular saver account.

However, to get the best rate, you need to be proactive and move your money. Also watch out for any terms and conditions, for example, some of the best supposedly “easy-access” savings accounts restrict withdrawals to two a year, or one a month, while others stipulate that you have to have a current account to qualify for the savings account.

Sarah Coles, head of personal finance at Hargreaves Lansdown, comments: "This is likely to be the top of the savings market, at least for now. Now that rate rises have paused, banks won’t be pricing in higher rates during the fixed period, so rates will settle, and are likely to fall.

"If you’ve been waiting to fix near the top, it’s worth getting your skates on. The very best deals may not be around for much longer. If you haven’t switched your easy access rate for some time, it’s also worth making a move while there are some really attractive rates on the market."

For the top savings rates right now, check out our round-ups of the best cash ISAs, best easy-access accounts, best fixed rates and best regular saver accounts. 

UK inflation dropped to 6.7% in August, according to the latest figures from the Office for National Statistics (ONS). The better-than-expected numbers (analysts had expected inflation to rise to 7% from 6.8% in July) are likely to put less pressure on the Bank of England (BoE) to hike interest rates further from current levels. 

August’s figure was driven by “falls in the often-erratic cost of overnight accommodation and air fares, as well as food prices rising by less than the same time last year.” These declining figures offset rising petrol prices, which put upward pressure on the headline inflation figures. 

More importantly, core inflation, which strips volatile food and energy costs, and is a better indicator of the long-term growth of prices, fell to 6.2% in August. Economists were predicting a figure of 6.8% for August compared to the July print of 6.9%.  

UK inflation figures show light at the end of the tunnel  

The latest update on inflation will come as a relief to policymakers and consumers in the UK. 

As Daniel Casali, chief investment strategist at wealth management firm Evelyn Partners notes, “Back in October last year, annual headline CPI inflation had reached 11.1%, but it has since fallen by 4.4%. Much of that deceleration has come from lower energy prices in the transport (i.e. fuel) and housing and household services (i.e gas and electricity) categories.”

“Despite pockets of inflationary pressures (i.e rents), the broad deceleration trend in inflation is intact and this increases the likelihood that the BoE is close to the end of its interest rate-hiking cycle,” Casali adds. 

The BoE has hiked interest rates aggressively over the past year as it has tried to bring inflation back to its 2% target. The central bank’s base rate currently stands at 5.25% and it is widely expected the bank’s Monetary Policy Committee (MPC), which sets rates, will unveil another 0.25% hike tomorrow. 

But moderating inflation suggests the BoE might be close to the end of its hiking cycle. As Victoria Scholar, head of investment at interactive investor notes, “markets are now pricing in a 45% chance of no change to interest rates on Thursday, a steep increase from 20% on Tuesday. However, it looks like interest rates will remain high for some time, with little chance of a rate cut before the second half of next year.”

Nevertheless, the economy is not out of the woods just yet, “Wages are rising rapidly, sterling still remains weak and oil prices are going up,” notes Charlie Huggins at Wealth Club. 

Although for now, “ the trend is in the right direction. While price rises are still much higher than anyone would like, there is no longer a sense that inflation is out of control."  

UK wages grew at a record pace in the quarter through June, making it more likely the Bank of England (BoE) will hike interest rates again when it next meets. 

Annual growth in regular pay, excluding bonuses, was 7.8% between April to June 2023 - the highest regular annual growth rate since records began in 2001. 

Annual average regular pay growth for the private sector was 8.2%, the largest annual growth rate seen outside the pandemic. 

Annual growth including bonuses was 8.2% in the same time period. While this is good news for consumers, it introduces a fresh headache for the BoE’s rate-setting Monetary Policy Committee (MPC). 

“Finally, we’ve stopped getting poorer with each passing month, as wages have returned to growth after inflation,” says Sarah Coles, head of personal finance at Hargreaves Lansdown.  “However, this is the bright spot among a fairly dismal employment picture, and even this could bring more bad news further down the line.

We look into what effect this data will have on interest rates.

How do rising wages affect interest rates?

The BoE base rate is currently sitting at a 14-year high of 5.25%. While the jump in wages will be a big relief for consumers, “it will be far less welcome for the Bank of England”, says Coles. 

“Since the period of higher inflation started, there was always the risk that wages would need to rise to help people make ends meet and that it would end up fuelling even more inflation.

The figures could mean “we may well see another rate rise when the committee next meets,” adds Coles. “This raises the prospect that it could exacerbate growing weakness in the jobs market.”

‘’The blast of cold air from higher interest rates is being felt in the labour market, with unemployment ticking up but the risk is that the growth in wages will continue to fan the fires of inflation,” adds Susannah Streeter, head of Money and Markets at Hargreaves Lansdown. “With the highest annual wage growth recorded in June since records began in 2001, another rate hike from the Bank of England looks bolted on in September.”

Unemployment rate grows

Meanwhile, the unemployment rate between April to June increased by 0.3% to 4.2% – its highest level since 2021. 

“Inactivity due to long-term sickness rose to a record high and job vacancies fell by 66,000, dropping for the 13th consecutive period,” says Victoria Scholar, head of investment at interactive investor. 

“Amid the macroeconomic storm clouds, businesses have become increasingly cautious about their hiring plans, reducing the level of vacancies which has made it more difficult for workers to find jobs, raising the unemployment rate,” adds Scholar. 

“On top of that there’s a record number of people unable to work due to long-term sickness, perhaps pushed up patient backlogs and other pressures on the NHS.”

Join us at the MoneyWeek Summit on 29.09.2023 at etc.venues St Paul's, London.

Tickets are on sale at www.moneyweeksummit.com

MoneyWeek subscribers receive a 25% discount.

The Bank of England has raised its base rate from 5% to 5.25% - its 14th consecutive hike as it continues to grapple with stubborn inflation.

Most economists had predicted the Monetary Policy Committee (MPC) would increase rates to 5.25%. It follows a much bigger jump in June, when rates went up from 4.5% to 5%.

While inflation fell by much more than expected in June and at 7.9% is at its lowest level in over a year, it remains nearly four times higher than the Bank's 2% target.

The MPC voted by a majority of 6–3 to increase the base rate by 0.25 percentage points. Two members preferred to increase the rate by 0.5 percentage points, to 5.5%, while one member voted to maintain Bank rate at 5%. 

The last time interest rates stood at 5.25% was in April 2008.

The notes of the MPC meeting referred to the inflationary outlook. It said: “CPI inflation remains well above the 2% target. It is expected to fall significantly further, to around 5% by the end of the year, accounted for by lower energy, and to a lesser degree, food and core goods price inflation. Services price inflation, however, is projected to remain elevated at close to its current rate in the near term.” 

The increase in interest rates will bring further misery to first-time buyers, homeowners on tracker mortgages and those about to remortgage, but it could benefit savers.

Mortgage rates have been surging in recent months as banks and building societies hike rates to reflect the rising base rate, and the fact inflation remains sticky, which could push the base rate up again.

The average two-year residential mortgage rate is currently 6.85%, according to the analyst Moneyfacts, its highest level since August 2008. The average five-year fix is 6.36%..

What is the outlook for interest rates?

Economists are expecting one or two more rate rises from the Bank. EY Item Club and Capital Economics both predict that interest rates will peak at 5.5%, while others think they could reach 5.75%. 

Victoria Scholar, head of investment at the investment platform Interactive Investor, says: “In June, markets were anticipating the Bank rate would peak above 6% in February 2024. However, considering recent data [such as inflation dropping from 8.7% to 7.9%], economists are now looking at a terminal rate of around 5.75%.”

The consensus is that rates won’t start to fall until next year, and probably the second half of 2024. 

Paul Dales, chief UK economist at Capital Economics, comments: “We think Bank rate will be cut faster and further than market pricing from the back end of 2024 and in 2025.”

There are three more interest rate announcements to come this year: 21 September, 2 November and 14 December.

What does the rate rise mean for homeowners?

Another rise in interest rates spells bad news for those with mortgages. Customers with variable or tracker mortgages, or people looking to secure a new fixed-rate deal, will find it costs more to borrow the money for their homes.

Customers on a typical tracker mortgage will pay about £24 more a month, due to today’s 0.25 percentage point increase, while those on standard variable rate (SVR) mortgages face a £15 jump on average.

Most mortgage holders are on fixed-rate deals, which means they won’t be affected by the base rate rise, but millions of deals will end this year and next year, which could trigger a large hike in payments when those homeowners come to remortgage. 

However, there is a glimmer of hope as experts believe we could be past the mortgage rate peak, or nearing the peak at least. If inflation continues to drop, and base rate edges up only slightly to 5.5% in September, the daily mortgage rate rises could be a thing of the past.

After rising relentlessly from less than 6% in the middle of June, the average two-year fixed-rate mortgage now sits at 6.85%. But some lenders such as Barclays, TSB, HSBC and Nationwide have recently started to cut their rates. 

Sarah Coles, head of personal finance at the investment platform Hargreaves Lansdown, notes: “This isn’t going to usher in an era of super-low rates, [but] we are expecting average mortgage rates to drop from here.” 

What does the rate rise mean for savers?

An increase in the Bank rate is usually good news for savers. However, it’s unlikely banks and building societies will immediately raise savings rates; instead, they tend to make ad-hoc changes, and often to only certain products rather than their full range.

This means customers will need to actively monitor their savings accounts and be prepared to switch to get the best rate. 

There are plenty of easy-access savings accounts paying above 4.5%, while you can get 6% on a one-year fixed account and 7% on the best regular saver account.

Analysis by the credit broker TotallyMoney shows that savings rates should actually be a lot higher though, when compared to the rates on offer 15 years ago when base rate was also 5.25%. 

Back in February 2008, the best easy-access account paid 6.5%, while the top one today pays 4.53%. 

Alastair Douglas, chief executive of TotallyMoney, comments: “While the recent hikes are supposed to represent good times for savers, many lenders have been slow to pass these on. In fact, the regulator found that the big banks didn’t pass through 72% of the rate rises to easy-access accounts.

“Loyalty doesn’t pay, and unless you’ve recently moved your cash to a market-leading savings account, the chances are you’re being short-changed. And with inflation still high, having your money in a low-interest account means it’s being quickly devalued.”

The Bank of England and the Financial Conduct Authority recently urged savings providers to pay better rates, especially on easy-access accounts. A whopping £250 billion is sitting in savings accounts earning zero interest.

For the top rates right now, check out our round-ups of the best cash ISAs, best easy-access accounts, best fixed rates and best regular saver accounts. 

Variable and tracker mortgages are now more than twice as popular compared to just over six months ago, according to analysis, as higher borrowing costs have switched up borrower behaviour.

Borrowers are increasingly interested in shorter-term fixed deals – such as two year fixes instead of five year fixes – as mortgage rates have risen sharply in recent weeks, search activity on the Moneyfacts website found.

Yet at the same time, more people are thinking about taking a punt on the future path of interest rates with a variable or tracker rate mortgage, in the hope money markets have overblown expectations of rate rises and the Bank of England’s Monetary Policy Committee starts to cut the base rate again.

Adam French, head of consumer finance at Moneyfacts, said: “The economic consequences of the conflict in the Middle East have turned interest rate expectations on their head, pushing up borrowing costs and changing borrower behaviour.

“With fixed mortgage rates rising sharply in a short space of time, more borrowers appear willing to gamble on rates falling sooner than markets currently expect.”

How mortgage rates have risen

Home buyers would have been hoping for a fall in mortgage costs in 2026, but ongoing tensions in the Middle East since the end of February have put pricing into flux.

Borrowers were starting to benefit from falling rates at the start of the year, with interest rates steadily falling as inflation slowed to 3%, but mortgage pricing surged in March following the US-Israeli invasion of Iran.

Peace talks in recent weeks have led to the market cooling somewhat, however rates are still significantly higher than prior to the conflict.

For example, the average two year fixed rate mortgage was 4.85% on 1 February. By 15 May that had risen to 5.75% – an increase of 90 basis points.

For a five year fix, the rise has not been quite as big. On 1 February the average rate was 4.94%. As of 15 May it was 5.67% – a rise of 73 basis points.

By comparison, on 1 February, prior to the US-Israeli attack on Iran and the surrounding Middle East, the average two year variable rate mortgage was 4.41%. On 15 May it was 4.56%, an increase of just 15 basis points.

Interest in variable and tracker mortgages increases

Variable and tracker mortgages remain a minority choice. But the increase in interest in these mortgages points to a view among borrowers that rates could ease in the near term.

“Tracker and discounted variable mortgages can appear more attractive when fixed rates rise quickly, as they typically start lower,” said French.

However, he pointed out, they also pass much more of the risk of future base rate or standard variable rate changes directly onto the borrower, rather than the lender taking on that risk through a fixed-rate product.

Borrowers also seem keen on hedging their bets with shorter-term fixed options. With five-year fixes rising by more than 70 basis points since February, according to Moneyfacts data, many borrowers appear to be favouring two-year deals in the hope the current spike in rates proves temporary.

What is driving mortgage rates?

An interest rate cut in December had helped mortgage pricing fall below 5% and even below 4% in some cases, prompting a drop in mortgage rates in the build up to the new year, as the cost of borrowing was expected to continue falling.

At the start of the year, the Bank of England’s (BoE) Monetary Policy Committee (MPC) had been expected to lower interest rates twice in 2026, but instead it has held rates at its last three meetings in February, March and April.

The base rate has stayed at 3.75% since the start of 2026 and swap rates, which help determine the cost of fixed-rate mortgages, surged after the outbreak of the conflict in Iran. This caused mortgage rates to rise rapidly.

The rate of increase in swap rates has slowed in recent weeks, although they remain significantly higher than prior to tensions in the Middle East.

We reveal how to get the best deal when remortgaging.

What are swap rates?

Swap rates are agreed between financial institutions, like a lender and an insurance company, and refer to the rate of interest one agrees to pay the other in return for funds over a set period of time.

Ultimately, they reflect the wholesale cost of funding for banks that influences how they price credit such as loans and mortgages.

This means that if swap rates go higher, it’s more expensive for the lender to borrow and it will have to hike rates on its mortgage products.

Swap rates are based on what markets believe will happen to interest rates and inflation in the future.

With the ongoing conflict in Iran stoking fears that inflation could spike globally, leading to higher interest rates, this has seen swap rates rise.

In turn, lenders have been pushing up their mortgage rates as it becomes more expensive for them to borrow money.

What is the forecast for interest rates?

What happens with mortgage rates depends on the direction of interest rates. At the start of the year, the BoE had been expected to cut interest rates twice in 2026. However, the US-Israeli attack on Iran on 28 February scuppered these plans.

In its April meeting, the MPC again voted to maintain interest rates at 3.75%. Huw Pill, the Bank's chief economist, was the only member of the Bank's nine-member Monetary Policy Committee to vote for a rate rise.

Predictions about the future direction of interest rates will drive mortgage rates. And what happens with interest rates will largely depend on inflation – the cost of goods and services, which are heavily influenced by energy prices.

At its April meeting, the MPC again pointed to how the war in the Middle East is disrupting the supply of energy, raising its price and pushing up households’ motor fuel costs; “we expect utility bills to increase as well”, it said.

Inflation increased by 3.3% in the 12 months to March – higher than the MPC predicted in February, before the start of the war, and largely driven by increases in transportation costs, especially motor fuels. “It is likely that it will be higher later this year,” the Committee said.

It also expects energy price rises to have knock-on effects. As businesses’ bills go up, it is likely they will increase their own prices to cover the cost and workers may ask for higher wages as their bills also rise.

“The impact on the economy and inflation will depend on how much energy prices go up and how long they stay raised,” the MPC said.

Given the context, some economists now believe the MPC is likely to hold rates in 2026, and perhaps even raise them.

Advisory firm Oxford Economics believes the MPC will hold rates where they are until 2027.

Meanwhile, Pantheon Macroeconomics expects interest rates to be hiked twice in 2026, followed by three cuts in 2027.

The Bank of England appeared to sound its concerns over future interest rates in its most recent Monetary Policy Summary report in April.

In it were three scenarios that could occur due to energy shocks caused by the Iran conflict, with the worst-case scenario suggesting inflation will peak at 6.2% in early 2027, in which case interest rates could rise as high as 5.25%.

However, on 18 May, the International Monetary Fund (IMF) said the Bank of England will not need to raise interest rates this year to combat the effects of rising energy costs.

The IMF has assessed UK monetary policy is already "sufficiently restrictive to ensure that second-round effects from higher energy prices to inflation are contained”, it said in its latest update on the state of the UK economy.

The report also upgraded its forecast for UK economic growth this year to 1%, up from the 0.8% figure it had expected only last month.

Should you fix your mortgage?

If you are one of the estimated 1.8 million people on a fixed-rate mortgage that is expiring this year, according to UK Finance, it could be a good idea to hedge your bets and fix now.

Fixed rates can offer you certainty over what you’ll pay in interest over the course of the deal, even if rates do rise.

Plus, under the Financial Conduct Authority’s (FCA) mortgage charter, you can lock in a new fixed-rate deal six months before your current one is due to end and then shift to another, more competitive one, later on.

Mendes, from John Charcol, said: “In this kind of market, the better approach is often to lock in an affordable option and then switch if pricing improves before completion.”

What about variable mortgage rates?

Standard Variable Rate mortgages – the ones borrowers tend to roll onto once their fixed rate deal comes to an end – are still an expensive option. The average Standard Variable Rate (SVR) was 7.13% as of 1 May, according to Moneyfacts.

Those on a high SVR would be wise to switch onto a fixed rate now. Even if fixed rates fall further, the money saved from getting rid of an expensive SVR earlier could make it worth it.

You could also opt for a tracker mortgage which more directly follows the BoE base rate.

David Hollingworth, associate director at mortgage broker L&C Mortgages, said: “Anyone that is sitting on a standard variable rate because they are hoping for more drops in fixed deals should consider whether a tracker would be a better option.

“The SVR is likely to be substantially higher and even if fixed rates do reduce over time, each month on SVR could be costing a lot more.”

What about buy-to-let mortgage rates?

Buy-to-let fixed mortgage rates have soared due to unrest in the Middle East.

The average two-year rate was at 4.65% on 2 March, but sits at 5.35% as of 18 May, according to Moneyfacts. The five-year rate was at 5.04% on 2 March, but 5.66% as of 18 May.

Overall buy-to-let product choice has fallen sharply since the start of the conflict in the Middle East too. On March 2, there were 5,696 buy-to-let mortgage products available but just 5,052 on 18 May, according to Moneyfacts.

Despite recent buy-to-let mortgage rate increases, they are still considered competitive compared to how high they have been over the past few years – they were pushing 7% in the summer of 2023.

Landlords will have been hoping for a fall in mortgage rates later this year to help offset the 5% stamp duty surcharge, less generous mortgage interest tax relief and higher income tax charges on property introduced in the 2025 Autumn Budget and coming into effect in April 2027.

Landlords have also had to ensure they meet the new Renters’ Rights Act rules, which came into force on 1 May. In addition, they will be expected to invest up to £10,000 to reach an EPC rating of C by October 2030. Growing costs could dampen the profitability of buy-to-let.

What mortgage support is available?

Mortgage rates are much higher than when many people would have last remortgaged. Some homeowners will be coming off rates as low as 1% or 2%.

If you’re struggling to make your mortgage repayments, the good news is that lenders representing 90% of the mortgage market have signed up to the government’s mortgage charter. They include the big banks like Halifax, HSBC and Santander and building societies like Nationwide, Leeds and Skipton.

The charter is a series of support measures intended to help those in difficulty. Borrowers will be able to make a temporary change to their mortgage for six months to give them some breathing space, such as switching to interest-only payments or extending their mortgage term to reduce their monthly payments. Customers have the option to revert to their original term within six months by contacting their lender.

About 1.7 million mortgages have benefitted from the mortgage charter since it was introduced in June 2023, according to the City watchdog.

Meanwhile, there is a 12-month delay before repossession proceedings can start against those who have missed payments. Regardless of whether your lender has signed up to the charter, all lenders also have a range of measures in place for customers experiencing difficulties.

Should I overpay my mortgage?

If you’ve got some spare cash and you're on a low rate, overpaying your mortgage can be a good way to protect yourself before your mortgage deal expires and you have to remortgage at a higher rate.

Our mortgage overpayment calculator shows how your monthly repayments will change and help you decide if it is worth it.

Recent research from finance broker Clifton Private Finance found someone on a £250,000 mortgage paying it off over 25 years at 5% could save £40,000 in interest and shave four years off the term by overpaying by just £150 a month.

“You can’t control the market, but you can control how you respond to it. Rates change, lenders adjust their products, and the wider environment is always shifting,” said George Abouzolof, senior mortgage advisor at Clifton.

“But choosing whether to overpay your mortgage, and by how much, is entirely within your control. It’s one of the few levers homeowners can pull to improve their long-term financial position.”

The average two-year fixed mortgage deal now sits at over 6% for the first time since the end of last year ahead of expectations the Bank of England (BoE) will hike its base rate when it meets later this week. 

The rate of CPI inflation fell to 8.7% in April, falling below 10% for the first time in months, but it remains significantly higher than the BoE’s 2% target. Markets and analysts are expecting rates to rise from the current 4.5% when the Monetary Policy Committee (MPC) next meets on 22 June. 

Separately data from Rightmove’s house price index showed asking prices fell flat over the past month due to a “disorderly mortgage market”. 

What’s happening to mortgage rates?

Higher interest rates are designed to bring down inflation, but they have serious repercussions for homeowners. Indeed, house prices have been falling in 2023 as buyers retreat from the market due to higher repayment rates. Early last year, rates sat around 2%. 

“Someone moving a 25-year £200,000 mortgage from 2% to 5.9% could find their monthly payment rising by more than a third, to £1,276,” says Sarah Coles, head of personal finance at Hargreaves Lansdown. 

“It would add over £400 a month to their bill – which our research shows could force 88% of people into financial difficulties. Recent Bank of England figures show the scale of mortgage arrears jumped almost 10% between the end of 2022 and 2033 to £14.9 billion, and this figure is only likely to grow.”

The average rate on a two-year fixed deal is 6.01%, while the typical five-year fixed rate is 5.67%.

They peaked at 6.65% last year following the mini-Budget and have since fallen to around 5% – but the latest hike indicates lenders’ expectations rates will remain high and continue increasing. 

A base rate hike would particularly affect those on standard variable rate mortgages. 

What’s happening with house prices?

Average new seller asking prices fell by £82 in June – the first monthly drop in new asking prices in 2023. 

June tends to be a hot month for the property sector, but this year prices fell for the first time since 2017. “We expect asking prices to edge down during the second half of the year which is the normal seasonal pattern, and while we sometimes re-forecast our expectations for annual price changes at this time, current trends suggest that our original forecast of a 2% annual drop in asking prices at the end of 2023 is still valid,” said Rightmove. 

But Rightmove also said it had seen no effect on demand, just a “modest impact on sales”. But the “significant changes in the mortgage market over the last four weeks are creating renewed disruption and uncertainty among movers trying to calculate how much they can afford to borrow and repay,” said Tim Bannister, Rightmove’s Director of Property Science. 

Further changes are expected as the BoE hikes rates, and those taking out a mortgage right now are likely to “feel very frenetic”. 

“Although the impact of higher mortgage rates on activity levels has been limited so far, with prospective buyers who can still afford to move appearing determined to go ahead, it remains to be seen how movers will respond to the expected further rate rises,” said Bannister. 

The UK economy bounced back in April after it was boosted by stronger spending by Britons in pubs, bars and shops, but growth in consumer spending could encourage the Bank of England to hike interest rates further.

UK gross domestic product (GDP) increased by 0.2% for the month after a 0.3% fall in March, the Office for National Statistics (ONS) revealed.

The latest figure was in line with forecasts for the month from economists.

The rise for April was partly caused by a recovery in consumer-facing services, which grew 1% for the month, as Britons spent more on drinking and eating out.

Economists suggested on Wednesday that the continued growth in consumer spending could indicate that recent interest rate hikes have not yet dampened demand and could increase appetite for further rate hikes.

It comes a day after official figures also showed that average regular wages, not including bonuses, jumped 7.2% higher in the three months to April, up from 6.8% in the three months to March. 

UK economy stats point to future rate rise 

The higher-than-expected wage rise stoked further suggestions that the Bank of England’s monetary policy committee will increase interest rates again next week in an effort to grapple inflation.

The central bank has been aggressively hiking interest rates for over a year now as it tries to get inflation back to its target of 2% – a task that has had to contend with record food prices and high energy costs.

The latest GDP figures will be mulled by the bank’s Monetary Policy Committee on 22 June.

ONS director of economic statistics Darren Morgan said: “GDP bounced back after a weak March.

“Bars and pubs had a comparatively strong April, while car sales rebounded and education partially recovered from the effect of the previous month’s strikes.”

The statistics body said the overall services industry grew by 0.3% for the month, as it recovered from a 0.5% decline in March.

However, some of the positive impact of improved hospitality and retail spending was offset by industrial action affecting other sectors, such as healthcare.

Morgan added: “These were partially offset by falls in health, which was affected by the junior doctors strikes, along with falls in computer manufacturing and the often-erratic pharmaceuticals industry.

“House-builders and estate agents also had a poor month.”

What next for the UK economy?

The weak performance from house-builders and estate agents comes amid a backdrop of surging interest rates, which have lifted to a 14-year-high of 4.5% and are expected to keep rising.

Chancellor Jeremy Hunt said: “We are growing the economy, with the IMF (International Monetary Fund) saying that from 2025 we will grow faster than Germany, France and Italy.

“But high growth needs low inflation, so we must stick relentlessly to our plan to halve the rate this year to protect family budgets.”

Labour’s shadow chancellor Rachel Reeves said: “Despite our country’s huge potential and promise, today is another day in the dismal low-growth record book of this Conservative Government.

“The facts remain that families are feeling worse off, facing a soaring Tory mortgage penalty and we’re lagging behind on the global stage.”

Kitty Ussher, chief economist at the Institute of Directors, said: “April’s GDP data shows a recovery in consumer-facing services compared to March, with growth recorded in retail and wholesale trade, accommodation, food and beverage services, and transport.

“This suggests that households responded to the improving weather in April by raising their levels of discretionary spending – even in the face of rising costs.

“Businesses in the consumer-facing sectors will be encouraged by today’s data.

“However, the Bank of England may interpret it as proof that their interest rate hikes have not yet dampened demand enough to reduce inflationary pressure, particularly when combined with yesterday’s strong labour market performance.”

Additional reporting via PA

The Bank of England (BoE) raised its base rate by 0.25% to 4.5% - its 12th consecutive hike as it continues to grapple with stubborn inflation.

The Monetary Policy Committee was widely expected to hike the base rate following April’s inflation figures. The Consumer Price Index (CPI) rose by an annual 10.1% in March due to a 19.1% jump in the price of food and non-alcoholic beverages.

The BoE has been aggressively hiking interest rates for over a year now as it tries to get inflation back to its target of 2% – a task that has so far been complicated by record food prices and high energy costs.

Its decision followed the US Federal Reserve, which last week raised its key rate by 0.25% to a range of 5% to 5.25%.

The Fed indicated its tightening cycle might be coming to an end, but the same cannot be said for the BoE. Inflation across the pond has fallen to below 5% for the first time since April 2021, but it’s proving far stickier in the UK.

But the UK is experiencing some pressures unique to the country, which are having a big impact on inflation, as Rob Clarry, investment strategist at wealth manager Evelyn Partners notes:

"First, like the rest of Europe, the UK has experienced a major energy price shock since the Russian invasion of Ukraine."

"Second, the UK has experienced far greater labour shortages than the rest of Europe, similar to what we have seen in the US. Many young European workers have left the UK after Brexit and older workers are leaving the labour force due to long-term sickness. This has placed upward pressure on wages and inflation."

Wholesale energy prices are predicted to fall from July, which could help lower the rate of inflation. Additionally, the chancellor said in his Spring Budget he expects inflation will fall to 2.9% by the end of the year, but in the face of the current figures that estimate seems overdone.

"We expect to see UK inflation start to ease as the base effects turn more favourable and the impact of higher rates is felt by the real economy. In its latest forecasts, the BoE now expects inflation to fall to around 8% for Q2 and 5% by Q4. They expect to meet their 2% target by the end of 2024," says Clarry.

We’ll be updating this page throughout the day with all the latest news and comment on the Bank of England’s latest move, so stay tuned.

Why is the Bank of England raising interest rates?

The rate of CPI inflation was expected to fall below 10% in March, but it came in at 10.1%. While this is a decrease from February’s rate of 10.4%, it’s still over five times the BoE’s 2% target.

The largest contributor to the CPI reading for the month was the food and non-alcoholic beverages category, followed by housing and household services such as electricity and gas.

By hiking interest rates the BoE is hoping to encourage consumers to save money instead of spending it, as higher interest rates increase the cost of borrowing while encouraging lenders to improve the rates on their savings products.

"Increasing interest rates is the main tool central banks use to lower inflation, as it leaves consumers with less disposable income to spend on goods and services, which in turn encourages price setters to keep prices low," says Alice Haine, personal finance analyst at Bestinvest.

"So far, this monetary policy tool is not achieving the desired effect fast enough with household budgets still held hostage by stubbornly high prices," adds Haine.

The best savings accounts are offering the most attractive rates in years, but rising rates have also weighed on the economy.

Members of the MPC have indicated they’re split on whether rising rates further is the way to go. Higher rates are weighing on the property market as they are pushing up mortgage rates, which is prompting many to delay their buying plans.

Haine notes "An estimated 700,000 UK households missed or defaulted on a rent or mortgage payment last month, according to Which?, reflecting the strain higher housing costs can have. Those nearing the end of a fixed-rate opportunity have had little opportunity to catch their breath and take stock of the mortgage market before locking in a fresh deal."

"Whatever happens in the short term, the 1.4 million people with cheap fixed rate deals expiring this year are now facing a significantly more expensive mortgage market than the one they left two or five years ago."

By discouraging spending the BoE is also slowing down the economy. And though the OBR no longer expects the UK to enter a recession in 2023, it still expects the economy to shrink by 0.2% this year.

As Oliver Faizallah, head of fixed income research at Charles Stanley, comments, “Going forward, the Bank of England have a very difficult job, navigating high inflation with a fragile economy. The Bank is likely to remain data dependent as they decide whether to pause or keep hiking. Policy makers and market participants will be looking closely for signs that show that the UK economy is finally giving in to the pressure of all the hikes to date, which would give them confidence that inflation will fall back to target sooner rather than later."

That said, there are signs the economy is holding up better than expected in the face of higher interest rates.

“Growth has certainly been subdued, but the consumer is bouncing back with increased confidence and demand for food services, pubs and restaurants, despite the cost-of-living headwinds. While consumption is yet to return to pre-pandemic levels, a strong UK job market should continue to support consumer activity as we move into the summer months,” says James McManus, chief investment officer, at digital wealth manager Nutmeg.

Interest rates will likely be held at 3.75% for the foreseeable future as policymakers continue their ‘wait and see’ approach to monetary policy in the wake of the Iran war.

In the latest meeting of the Monetary Policy Committee (MPC) on 18 June, interest rates were held for the fourth consecutive meeting, with the motion passing by seven votes to two.

This action was widely predicted by economists as we are still in a highly uncertain point – while the Iran war seems to be winding down with a memorandum of understanding set to be signed by the United States and Iran, much of the economic damage will persist even after hostilities cease.

Inflation is expected to accelerate this year due to the impact the war has had on global energy prices and oil prices, meaning interest rate cuts are probably off the table for the time being.

The current environment is a far cry from where experts thought the economy would be this year. Before the war, most expected that inflation would fall sustainably this year, allowing the MPC to make several rate cuts in 2026.

How is inflation influencing interest rates?

The MPC uses economic data to help inform its interest rates decisions.

One of the most important economic metrics used by the MPC is the rate of inflation. This is because the Bank of England has a mandate to keep price growth under control.

The Bank’s inflation target, like that of most western central banks, is 2%, which economic consensus says is a healthy level of inflation in an economy that stimulates spending while keeping prices under control.

The main way the central bank works to achieve this goal is by increasing or decreasing interest rates.

Broadly speaking, when inflation is too high, the MPC will raise interest rates, and when it is too low it will lower them.

These are not the only two reasons why interest rates are moved, though. For example, rates might be lowered if economic growth is too slow, to help speed up the economy.

Inflation is currently above the 2% target and has been for quite some time. The latest official inflation figures showed the Consumer Prices Index (CPI) remained at 2.8% in the 12 months to May.

This was lower than forecasts by most economists, and was in large part due to May having the lowest level of food inflation in 17 months.

But despite the positive inflation figures in May, most economists expect inflation will rise over the course of 2026 as the UK economy contends with the inflationary shock caused by the Iran war.

Economists at the BoE say they now expect inflation to remain just below 3% for most of the year, but briefly rise to “a little over” 3.25% in the fourth quarter of 2026.

With forecasts showing that inflation is set to remain above-target for the rest of 2026, it is unlikely that the Bank of England will decide the environment is right for an interest rate cut.

The rest of the economic background

Inflation is not the only data the MPC examines to make base rate decisions. Another key metric is the state of the labour market.

In the orthodox view of economics, a softer labour market with higher unemployment and poor wage growth is a disinflationary pressure in the economy, while strong wage growth and full employment drives up inflation.

The latest set of labour market data, published on 18 June, showed unemployment dipped slightly from 5% in the three months to March to 4.9% in the three months to April.

While a fall in unemployment is welcome, it is yet to be seen whether this is the start of a prolonged overall fall in joblessness.

At the same time, regular wage growth slowed to a near-six year slump. Regular earnings grew by 3.4% in the year to April, rising to 4.4% when including bonuses.

This was led by the public sector, where wages grew by 5.1% in the 12 months to April while private sector earnings grew by just 2.9% in the same period.

As for economic growth, the picture is not positive either.

The UK economy shrunk in the month to April, as GDP fell by 0.1% thanks to disruption from the Iran war, stoking fears that a recession may be around the corner.

This is a reversal from the economic recovery the UK was seeing in the first quarter of 2026, when GDP grew by 0.6%.

Will interest rates fall in 2026?

Between August 2024 and December 2025, the Bank of England cut interest rates six times – roughly once a quarter, and each time by 0.25 percentage points.

That cutting trend brought the base rate down from a recent high of 5.25% to 3.75% in December 2025.

However, rates have remained on ice since then, with four consecutive meetings of the MPC deciding to keep rates at 3.75%, ending the roughly quarterly cadence of rate cuts we saw since the summer of 2024.

Economists were already doubting that quarterly rate hikes would continue in 2026 before the Iran war solidified it, speculating that the interest rates were getting closer to the UK economy’s neutral rate of interest.

Now, with the spectre of rising inflation once again stalking the UK, almost all economists think the MPC will keep rates at 3.75% for some time as they wait to see how much economic damage there is.

The next MPC meeting will take place on 30 July, and by that time we will have seen another month’s worth of economic data, showing where prices went in June and the state of the labour market and economic growth in May.

The committee will pour over this data and look at what it means for the future of interest rates.

If the figures show that the economic consequences of the war are in line with current expectations, then we can expect rates to stay held again.

But if inflation rises more than expected, we could see a rate hike to help contain price growth.

In the latest MPC meeting, two members (Huw Pill and Megan Greene) voted to hike rates as they believed it was needed to keep inflation under control as they assessed second-round inflationary effects to be more of a risk than the rest of the committee.

If the data shows Pill and Greene’s hypothesis is correct, we can likely see more MPC members vote for a hike.

This being said, the most likely scenario at the July MPC meeting is that rates will stay at 3.75% as the inflationary shock of the war is expected to be less extreme than the Bank’s April forecasts showed.

Economists at Deutsche Bank expect interest rates to be held at 3.75% for at least the rest of this year, with the possibility of rate cuts coming back on the table in spring 2027.

Sanjay Raja, chief UK economist at Deutsche Bank, said the economic data has so far given the MPC extra time to fully assess the situation before potentially moving interest rates.

He said: “With data more favourable than expected, and an Iran/US deal in place, the need to act swiftly has reduced. The MPC can let the dust settle before deciding on its next course of action with a full economic update and a more complete communication package in July.

“We expect Bank Rate to remain on hold through the remainder of the year. We still see the case for rate cuts to resume from spring next year. While we flagged one-sided risks to the interest rate outlook, developments – both domestically and geopolitically – have opened up more balanced risks to the monetary policy outlook.”

This is similar to the forecast from economics advisory firm Oxford Economics, which sees rates on ice until around late 2027. At that point, they believe the MPC could start cutting interest rates again.

Andrew Goodwin, chief UK economist at the firm, said: “On balance, we can’t see any reason to change our call that Bank Rate will remain at 3.75% for the rest of this year.

“The majority of the committee appear content to sit back and see how events play out, and we don’t expect to see leading indicators showing evidence of growing second-round effects that might trigger a change of heart.”

He added: “Our current baseline shows cuts resuming in late 2027, with the committee erring on the side of caution about underlying inflation pressures. But the chances of an earlier move are rising.”

An earlier cut would be reliant on a lasting peace being reached by the US and Iran, however.

The Bank of England (BoE) has raised its base rate by 0.25% to 4.25%, its highest level since October 2008.

The central bank was widely expected to hike rates today following a surprise jump in inflation to 10.4% as announced by the Office for National Statistics yesterday.

Still, the rate-setting Monetary Policy Committee (MPC) faced a difficult balancing act going into their meeting today.

The collapse of Silicon Valley Bank and Credit Suisse has caused turmoil in the banking sector, leading some analysts to predict the BoE would pause hikes to reassure markets.

But it seems the BoE believes the fight against inflation is more important as it runs over five times ahead of the central bank’s 2% target.

“No one could say the Bank of England’s decision to raise the base rate to 4.25% was unexpected,” says Emma-Lou Montgomery, associate director for personal investing at Fidelity International

“The surprise jump in UK inflation to a 45-year high of 10.4% in February, while an 11th-hour shock, only reinforced expectations that the BoE would have no choice but to raise interest rates again.

“The Bank of England also had no choice but to acknowledge that inflation is firmly in the driving seat, with concerns over the global banking crisis set aside in favour of tackling a troubling spike in the cost of living,” said Montgomery.

The BoE’s hike follows the Federal Reserve, which hiked interest rates by 0.25% yesterday.

We’ll be updating this page throughout the day with all the latest news and comment on the Bank of England’s latest move, so stay tuned.

Why is the Bank of England raising interest rates?

The CPI inflation rate was expected to continue to slow in February, with analysts projecting a figure of 9.9%. However, the rate came in much hotter than expected at 10.4%.

Food inflation is running at 18.2%, its highest-ever level. Rising prices at restaurants and hotels also increased 12.1% year-on-year in February.

The BoE is attempting to get inflation under control by hiking interest rates, and encouraging savers to put money away and not spend it.

But while savings accounts now offer some of the best rates in years, higher borrowing costs are projected to weigh on economic growth.

The 0.25% hike is gentler than the past two 0.50% hikes and the 0.75% increase last November. And “with the decision from the nine-strong Monetary Policy Committee split - with seven favouring a 0.25% increase and two wanting no rate hike at all - it signals some trepidation about pushing ahead with a rate rise amid the uncertainty,” says Alice Haine, personal finance analyst at Bestinvest.

The Office for Budget Responsibility (OBR) expects the UK economy to shrink by 0.2% this year, although it no longer expects the UK to enter a recession in 2023.

Furthermore, the International Monetary Fund expects the UK to be the only G7 economy to shrink in 2023.

The OBR also expects the rate of inflation to fall to 2.9% by the end of the year, but right now the forecast seems optimistic, and the latest data from the ONS shows the path there is far from straightforward.

The bank also acknowledged the economic impact of the failure of SVB and Credit Suisse, adding it would issue a full assessment in its next update in May. Still, it said the UK banking system “maintained robust capital and strong liquidity positions and was well placed to continue supporting the economy”.

Will the Bank of England continue to raise interest rates?

“Whether this is the end of the rate hiking cycle is unclear, but thankfully, the outlook from here is not entirely bleak,” continues Haine.

“The UK narrowly avoided a recession last year and is expected to do the same in 2023. In addition, both the BoE and the Office for Budget Responsibility expect inflation to slide as a result of easing wage growth and falling energy prices.”

Following the chaos caused by the mini-Budget last September, analysts were expecting rates to rise to as much as 6%, but now analysts now estimate rates will peak at 4.5%.

Andrew Bailey, the BoE’s governor, has said that even though inflation had started to fall the Bank couldn’t afford to take its foot off the pedal and risk a return to the levels of inflation seen in the 1970s. Two MPC members voted to maintain the rate at 4%.

Encouragingly, the BoE said it expected inflation to fall sharply over the coming months as energy prices decline, which could signal an end to the rate hikes in the near term.

However, the Bank said “if there were to be evidence of more persistent pressures, then further tightening in monetary policy would be required”, so at this point, it’s still a waiting game.

What do rising interest rates mean for you?

Rising interest rates increase the cost of borrowing, meaning mortgage rates are likely to rise in the coming weeks.

“A rise to base rate will come as disappointing news to borrowers who are not locked into a fixed rate mortgage, as their monthly repayments may rise in the coming months amid a cost of living crisis,” says Rachel Springall, finance expert at Moneyfactscompare.co.uk.

But borrowers looking to refinance “might be pleased to see that fixed-rate mortgages have fallen since the tail end of 2022 and that it is currently cheaper on average to lock into a five-year fixed rate over a two-year fixed deal”, says Springall.

“The incentive to fix is clear from the continued rise to the average Standard Variable Rate (SVR), which is now above 7%, a level not breached since 2008,” Springall adds. “A rate rise of 0.25% on the current average SVR of 7.12% would add approximately £772* onto total repayments over two years.”

However, affordability will remain an issue for first-time buyers. “With this most recent increase in the base interest rate, the cost of borrowing remains much higher than previous years,” says Kellie Steed, mortgage expert at Uswitch. “Buyers who are not yet on the property ladder will need sizable deposits in order to access the most favourable interest rates.”

“It's possible that first-time homebuyers will find it more affordable to purchase a home towards the end of 2023 because both house prices and fixed mortgage rates are anticipated to continue falling throughout the year,” adds Steed.

The property market has been slowing down for months due to rising rates. Most house price indexes show house prices have been falling over the last few months.

The latest data from HMRC showed property transactions are down by nearly 20%, and the OBR expects prices will fall 10% by 2024.

And it's not just mortgages they're becoming more expensive. All rates on types of borrowing, from car finance to credit cards, are likely to rise following the BoE's announcement.

“While unsecured borrowing such as a personal or car loan is not typically impacted by an interest rate rise because the terms of the finance have already been agreed, those with credit card debt or an overdraft could see their rates change if their lender passes on the rise in borrowing costs,” says Haine.

As for savers, even though they have been enjoying better rates on savings accounts, higher interest rates don’t always translate into higher savings rates.

“It could take months for the increase in interest rates to trickle through to savers – if at all,” says Myron Jobson, senior personal finance analyst at interactive investor. “The acceleration in the frequency of rate rises has meant that some savings providers may still be catching up to past base rate rises.”

If inflation does fall to 2.9% as the OBR has predicted, the savings rate increase cycle could be “nearing its end”, says Jobson.

“But there is still plenty of uncertainty, and inflation could remain stubbornly higher for longer,” continues Jobson. “While you might get a better rate in the near future, there are no guarantees – and an uptick in savings rates could mean the difference between pennies and hundreds of pounds depending on how much you have to save.”

Inflation slowed again in January primarily due to lower petrol and diesel prices, although the Consumer Prices Index (CPI) remains near a 40-year high.

CPI came in at 10.1% in the year to January 2023. After slowing for three months straight, it’s now well below the peak of 11.1% reached in October 2022.

What were the biggest factors in the CPI inflation reading

High food and drink prices continued to be the biggest driver of inflation in January. Food inflation was 16.8% in the year to January, down only 0.1% from 16.9% in December.

Meanwhile, alcohol and tobacco prices increased 5.2% year-on-year in January from 3.8% in December.

The housing and household services category - which includes the cost of electricity and gas for domestic households - also remained high. Data from the ONS shows prices in this category grew 11.8% in January compared to the same period last year.

The cost of restaurants and hotels dipped, from 11.4% in December to 10.8% in January, and the cost of transport, particularly fuel, continued to fall, nearly halving from 6.9% in December to 3.4% in January.

“The continued dip in fuel prices remains a key contributor to the fall of the headline inflation figure, but high food and energy prices continued to put the pressure on British households,” says Myron Jobson, senior finance analyst at interactive investor.

“These types of inflation are sticky because we are resigned to paying it as they form part of essential expenditure for many.”

Despite its third consecutive monthly fall, the rate of inflation remains well above the Bank of England’s (BoE’s) 2% target.

As such, the central bank’s rate-setting Monetary Policy Committee (MPC) will likely be paying close attention to these figures when it discusses whether or not to raise interest rates at its next meeting.

Markets and analysts are expecting the MPC to hike rates by 0.25% when it next meets.

That will take the base rate to 4.25%, the highest level since 2008.

What next for inflation?

Inflation is forecast to halve by the end of the year, but there’s no guarantee of this happening. Indeed, there are multiple factors at play that could influence the figures in the months ahead.

Most importantly, households will see another hike in energy prices from April, when the new Energy Price Guarantee comes into effect. The cost of bills for the typical UK household is expected to rise from £2,500 to £3,000.

Ofgem is getting ready to announce its next price cap later this month, and if it’s lower than the EPG it could replace it.

But despite this protection for consumers uncertainty around where energy prices will go in 2023 remains, and there’s no getting away from the fact that households are going to be paying significantly more for energy in 2023 than they have been in the past.

“Small tweaks down in prices in some areas don’t stop the fact that many people are still seeing bills rise, with energy and food costs still increasing,” says Laura Suter, head of personal finance at AJ Bell.

“It feels like a long journey from here to the Bank of England’s prediction of 3% inflation in the first few months of 2024.”

What does rising inflation mean for you?

“High inflation has a very damaging effect on disposable incomes as it erodes purchasing power and eats into savings, forcing households to make spending cutbacks with repercussions for businesses,” says Alice Haine, personal finance analyst at Bestinvest.

“Match it with the highest interest rates since the financial crisis and it leaves consumers not only contending with falling real wages but also grappling with higher prices and borrowing costs.

“Throw in frozen tax thresholds and most households won’t be celebrating the lower inflation figure just yet. Instead, careful budgeting will remain a priority for now as they strive to keep everyday costs in line.”

If the BoE continues to raise rates to bring inflation down, it will have a knock-on effect on mortgage rates. These are already far higher than they were at the end of 2021, sitting between 5% and 6%.

But the seemingly impending rate rise has already been priced into most deals, and lenders are starting to compete for business. Last week HSBC became the first lender to launch a deal with a rate below 4%.

But affordability will remain “an issue for first-time buyers and those looking to remortgage”, says Haine.

“High inflation dents purchasing power with money simply unable to stretch as far, something lenders carefully when evaluating borrower’s creditworthiness.

“However, with house prices on the slide, first-time buyers unable to borrow the amount they hoped to might find some wiggle room on the price of the property they are looking to purchase instead.”

On the other hand, savers will continue to benefit from the BoE’s interest rate rises. While the best savings accounts still don’t offer rates that match the inflation rate, they are still far more competitive than they were 12 months ago.

“It is still a good idea to move money languishing in an account with an ultra-low interest rate to one offering better returns such as 3.1% for an easy-access account, up to 7% for regular returns or a competitive 3.3% for NS&I’s Premium Bonds from March,” says Haine.

In some slightly positive news for the economy, UK wages accelerated at their fastest rate ever outside of the pandemic in the last quarter of 2022, according to the latest figures from the Office for National Statistics (ONS).

Growth in average total pay, including bonuses, was 5.9% and growth in regular pay, excluding bonuses, was 6.7% in the three months from October to December 2022.

However, pay is still failing to keep pace with inflation.

When adjusted for inflation real total and regular pay fell by 3.1% and 2.5% respectively. The latest figures from the ONS show CPI inflation is currently running at 10.5%.

“This is smaller than the record fall in real total pay we saw in February to April 2009 (4.5%), but remains among the largest falls in growth since comparable records began in 2001,” the ONS said.

The figures show “Britain’s workers are seeing their disposable incomes hammered by higher prices – with the jump in wages unlikely to ease in the short-term as those feeling the pinch ask for pay increases to give their purchasing power a fighting chance against inflation,” says Alice Haine, personal finance analyst at investment platform Bestinvest.

The figures put the Bank of England (BoE) in a tricky place. Wage growth in the private sector could prompt businesses to continue to hike prices to offset costs, pushing inflation higher still. That could force it to hike interest rates much further in the coming months.

The central bank raised interest rates to 4% when it last met in February, the tenth consecutive increase.

It’s widely expected interest rates will rise again when the Monetary Policy Committee (MPC) meets on 23 March. Most analysts expect the BoE will hike the base rate by 0.25%, but this data might force the MPC to move faster.

Unemployment rate stays the same

There was a small increase in the unemployment rate of 0.1% between October and December 2022, taking the rate to 3.7%, although this was mainly driven by an increase in number of people coming back into the workforce and looking for employment.

Economic inactivity, which measures the amount of people not looking for work, decreased 0.2% points to 21.4% for the quarter.

Still, this number remains well above pre-pandemic figures, driven by “early retirement, high long-term sickness rates, lengthy NHS waiting lists and the high cost of childcare”, says Haine.

Between the third and fourth quarters of 2022 the number of people classed as economically inactive dropped by a record amount as more people joined the work force.

Elsewhere, the estimated number of job vacancies fell 76,000 on the quarter to 1,134,000, reflecting “uncertainty across industries, as survey respondents continue to cite economic pressures as a factor in holding back on recruitment”, the ONS said.

Public sector wage growth lags behind

Average regular pay growth for the private sector was 7.3%, but the public sector saw growth of 4.2%.

The discrepancy was the driver for a wave of industrial action at the end of last year that has continued into 2023.

“As pay packets fail to keep pace with rising living costs and the gap between public and private employers' wage expectations widens, thousands of public sector workers have resorted to industrial action in recent months – something that has a detrimental effect on productivity with 843,000 working days lost to strikes in December – the highest level since the aftermath of the financial crisis,” says Haine.

Private sector employers are expected to raise salaries by 5% in 2023, according to the Chartered Institute of Personnel Development, “as they strive to offer attractive pay deals to fill vacancies and prevent existing staff from jumping ship”, says Haine.

What’s next for the labour market?

The UK just about avoided a recession in 2022 despite a 0.5% fall in GDP in December. But the Bank of England is still expecting a recession in 2023, and the International Monetary Fund expects the UK to be the only G7 economy to contract in the year ahead.

“The UK avoided a recession by the skin of its teeth at the end of last year, but the road ahead is still very uncertain,” says Haine.

“The strain is already evident with redundancies on the rise and British companies easing back on recruitment and hiring intentions now at their lowest levels in more than a year, as the high inflation and interest rate environment drives threats of a recession.”

If you're looking for the best savings rates, you can earn up to 5% with the top easy-access account, 4.85% with a one-year fixed bond, 8% with a top regular saver or 4.72% with a cash ISA.

While savings rates are lower than they were a few years ago, you can still find inflation-beating deals on the market and make your money work hard for you.

You shouldn’t judge a savings account solely by its top rate, but rather check whether it fulfils your needs – both short-term and in the long run. This includes looking at whether there are any restrictions on withdrawals or bonus rates, which could mean the rate quickly drops when the boost comes to an end.

The Bank of England held interest rates in April, so there's a chance that the top savings deals start to tumble. In that case, if you want a competitive rate on your cash, you may need to act quickly.

Below, we look at the top rates for notice savings, easy-access savings, fixed bonds, regular savings and cash ISAs.

Note:
All the banks we mention in this article are protected by the Financial Services Compensation Scheme, meaning up to £120,000 of your savings are protected should a bank or other financial services company go out of business.

Best notice savings rates

The best easy-access savings rates

Best regular savings accounts

The best one-year fixed rates

The best two-year fixed rates

The best three-year fixed rates

The best easy access cash ISAs

The best one-year fixed rate cash ISAs

The best two-year fixed rate cash ISAs

The best three-year fixed rate cash ISAs

Types of savings accounts

There are several different types of savings accounts to choose from.

• Easy access savings accounts: These allow you to take your money out as and when you please. However, some come with restrictions on withdrawals, which can mean you can’t immediately access all of your money in the account in an emergency. For instance, you may only make same-day withdrawals if done before a particular timeframe, or you may only be permitted a limited number of withdrawals before the rate on your account drops.
• Fixed-rate savings accounts: These come with restrictions, so you can’t access your cash until the account reaches maturity; otherwise, you may face a hefty penalty. You usually earn more interest if you are willing to lock your cash away for a fixed period, but keep in mind that this also takes away flexibility should you need the cash suddenly. Here's how much you should have in emergency savings.
• Regular savings accounts: Regular savers reward customers who are ready to commit to a consistent savings habit. These are usually the top-paying savings rates in the market, but can also come with withdrawal restrictions and are usually fixed for a certain time. We look at whether easy access or regular savings accounts give you the best return in a separate piece.
• Individual savings accounts (ISAs): These are a type of ‘tax wrapper’ into which you can put cash or investments. Currently, you have a £20,000 limit on how much you can set aside into an ISA. We look at how many ISAs you can have in a separate guide.

If you aren’t saving in this type of account, you could be forced to pay tax on interest. We look at ways to shelter your money from the savings tax trap.

If you’re looking to switch your current account, take a look at our guide to the best bank switching offers, where you can earn as much as £250.

What is the maximum amount protected by the Financial Services Compensation Scheme (FSCS) in the UK?

The Financial Services Compensation Scheme (FSCS) protects up to £120,000 of your savings and investments if a financial institution goes bust.

Previously, the limit was £85,000 for sole accounts and £170,000 for joint accounts, but it was raised to £120,000 and £240,000 respectively in December 2025.

All accounts listed above are eligible for FSCS protection. You can check if your account is protected online on the FSCS website.

What is the current Bank of England base rate?

The current Bank of England base rate is 3.75%. Interest rates were held at 3.75% in June. The next decision from the Bank of England will be announced on 30 July 2026.

The central bank’s Monetary Policy Committee meets eight times a year to set rates.

This article is updated regularly to bring you the latest on the best savings rates. Sign up for our newsletter to stay up-to-date on all the latest deals for cash savings.

The Bank of England has raised interest rates by 0.5%, which means the central bank’s base rate now stands at 3.5%, the highest level since October 2008.

This is the ninth consecutive increase in the base rate. Last month the bank’s Monetary Policy Committee (MPC), which sets interest rates, decided to raise rates by 0.75%, one of the steepest hikes of the last few decades as inflation surged.

The central bank has been hiking rates to try and control inflation, but policymakers are now worried that hiking rates too far too fast will hurt the economy and they’re starting to take their foot off the pedal.

A month ago analysts were expecting the MPC to hike rates by 0.75% at its December meeting. The slower pace of growth comes as UK GDP shrank by 0.3% in the three months to October and the chancellor warned we are in a recession.

Other central banks are also scaling back their fight against rising prices.

Yesterday the US Federal Reserve announced a rate hike of 0.5%, taking the base rate in the US to 4.5% its highest in 15 years. However, it also said it would be slowing down on its rate increases to see how the economy was responding.

And the European Central Bank has also slowed the pace of hiking. After the BoE announcement, it raised interest rates by 0.5% after a 0.75% jump at its last meeting.

All three banks remain committed to taming inflation while trying to minimise the collateral damage to their economies.

Why did the Bank of England increase interest rates?

While the headline inflation figure fell to 10.7% from 11.1% in November, UK inflation is still running at over five times the BoE’s 2% target.

Higher interest rates increase the cost of borrowing, In theory, this should put people off spending and encourage them to save decreasing demand. Businesses then have to compete for the remaining business usually by cutting prices.

That said, the BoE has admitted its aggressive stance against inflation might be hurting the economy by increasing costs for borrowers and reducing spending.

Additionally, inflation is being driven by factors outside of the BoE’s control.

Food and energy prices have shot up this year largely due to Russia’s invasion of Ukraine, which the central bank cannot control.

How much further will interest rates rise?

This month’s inflation figures would suggest inflation has peaked, and that could mean interest rates won’t rise much higher.

It certainly seems as if that’s the case in the US. After announcing a 0.5% rate hike yesterday, Jerome Powell, the Fed’s chairman, said that though there was still “some way to go” to control inflation, the bank wanted to slow down the pace of rate hikes to see how the economy was responding.

Back in the UK, a couple of months ago analysts were forecasting peak interest rates of nearly 6%, but now it seems they don’t expect the BoE to go much further than 4.25%.

“With fractionally moderating inflation, the looming threat of recession and a slight tick up this week in the unemployment rate, the Bank of England rightfully voted for a more cautious approach to tightening," noted Victoria Scholar, head of investment at interactive investor.

“The Bank of England can feel justified by its counterparts stateside that it made the right decision. Both the BoE and the Fed adopted the same approach, voting for a more dovish 50 basis point hike, having both raised rates by 75 basis points at their previous meetings," Scholar went on to add.

The minutes of the MPC meeting, released after the rate decision, showed that the bank's outlook for the economy is starting to pick up, albeit modestly.

"There was much to like within the minutes," noted Nicholas Hyett, an Investment Analyst at Wealth Club.

"The rising value of sterling is good for our buying power as a nation – taking some of the edge off international inflation. This, together with historic price rises rolling out of the data, mean headline inflation will fall substantially next year," Hyett added.

"That should help ease demands for wage increases, reducing the chances current inflation becomes endemic. Further good news came in the form of easing global supply pressures."

What do rising interest rates mean for you?

Rising interest rates mean higher borrowing costs. This is the case for all debt – loans, credit cards, and mortgages.

Mortgage rates have fallen from their peak of 6.65% in October, but they remain high compared to recent standards. According to Moneyfacts the best two-year fixed-rate mortgage now costs 4.7% compared to 2% this time last year.

Rising rates are particularly bad news for those whose fixed rates end in 2023 – UK Finance estimates this is the case for around 1.8 million homeowners.

As Alice Guy, Personal Finance Editor at interactive investor explained, "rates rises mean someone with a £200,000 tracker mortgage could be paying an extra £326 per month which is an eye-watering annual increase of £3,912."

The effect of rising rates, coupled with the rising cost of living, has already begun to affect the property market and prices are creeping down after two years of fast growth.

Rising rates are also good news for savers. Providers are not obligated to raise rates in line with inflation, and currently, there are no deals out there that come close to helping savers earn a real return on their money.

Still, higher interest rates have been trickling down to the best regular savings accounts, so it could be a good time to look for a better home for your savings.

“Higher interest rates do not always translate to higher savings rates. It could take months for the increase in interest rates to trickle through to savers – if at all. The acceleration in the frequency of rate rises has meant that some savings providers may still be catching up to past base rate rises. Put simply, you may get a better savings rate in the near future – but there are no guarantees. The amount you are looking to save could guide your decision. An uptick in savings rates could mean the difference between pennies and hundreds of pounds depending on how much you have to save," noted Myron Jobson, Senior Personal Finance analyst at interactive investor.

They have also had a positive impact on annuity rates. Rates have hit a 14-year high, breathing life back into a product that for years has been overlooked.

UK inflation hit a 41-year high of 11.1% last November, driven largely by rising energy prices despite the Energy Price Guarantee. The Bank of England (BoE) is forecasting one of the longest recessions in history and has admitted that increasing interest rates could worsen the situation.

But inflation is running at over five times the bank’s 2% target, which means the BoE is likely to continue increasing the base rate over the next few months.

The last time the Monetary Policy Committee met, in early November, it increased the base rate from 2.25% to 3%, and it’s widely expected there will be an increase of between 0.5% and 0.75% when it meets again on Thursday.

The rate increases are an attempt by the Bank to slow down inflation, as they encourage people to save and make it more expensive to borrow, discouraging spending.

With economic headwinds building and a recession on the horizon, there are several actions you can take to make sure you’re in the best position financially to weather the storm.

What is a recession?

A recession is when two consecutive quarters of negative GDP growth is recorded. This happened during the depths of the pandemic, but it was rather short-lived compared to similar events such as 2008’s Great Financial Crisis.

GDP in the UK grew by 0.5% in October, but shrank 0.3% for the third quarter as a whole.

Despite the growth seen in October, analysts pointed out the figures were bound to look favourable given September’s depressed activity caused by the extra bank holiday due to the Queen’s funeral.

While GDP is still growing in the UK, its growth is slower than the pace at which prices and incomes are rising.

So what would a recession mean for your money?

Expect job losses and lower wages

The Bank of England is predicting that unemployment will rise each year until 2025.

The Office for National Statistics’ latest data on the labour market showed the rate of unemployment ticked up from 3.6% to 3.7% for the three months to October from the previous quarter.

The number of vacancies also fell by 65,000, their fifth quarterly consecutive fall.

While they still remain at historically high levels, the decrease in vacancies coupled with the slight increase in the unemployment rate could be a sign of a weakening jobs market.

But it’s worth noting the number of people looking for employment also rose, with the economic inactivity rate decreasing by 0.2%. It was largely driven by those aged 50 to 65 as they seek to return to work to deal with the rising cost of living.

But with a recession on the cards, it’s possible unemployment will shoot up as companies try to cut their costs. Unemployment hit 10% during the 2008 financial crisis.

Prepare for higher mortgage rates

Mortgage rates peaked at 6.65% following Kwasi Kwarteng’s mini-budget announcement, which increased borrowing costs.

While the rates have now fallen to 5.99% and 5.78% for two-year and five-year fixed-rate mortgages respectively, they remain significantly higher than they were a year ago.

Mortgage rates could continue to rise as the BoE increases rates again.

People with mortgages – especially those on variable-rate mortgages – are likely to face a sharp rise in repayments, assuming the central bank continues to raise interest rates.

There are 1.8 million fixed-rate mortgage deals scheduled to end in 2023. These homeowners will have to refinance at a much higher rate.

UK Finance is predicting overall mortgage lending will fall by 15%, returning to pre-pandemic levels, due to the rising cost of living and rising interest rates placing pressures on affordability.

Credit crunch and an inverted yield curve

A credit crunch is a situation when there is a sudden drastic fall in the availability of money or credit from lenders, greatly reducing the availability of borrowing options for people. This is what happened during the Great Financial Crisis, lowering peoples’ ability to buy goods, and further slowing the economy.

A credit crunch usually signals the beginning of a recession, so it is more likely to be a cause rather than an outcome, but a credit crunch has ramifications for peoples’ disposable incomes.

Bloomberg reckons that the yield curve is inverting, something that will further lead to a halt in lending.

“I see the Treasury yield curve inverting as much as a half-percentage point. Eventually, we will face a sudden halt of credit to the weakest borrowers. Sectors to watch include leveraged loans, emerging markets, and European debt,” says Bloomberg’s Edward Harrison.

How to prepare your finances for a recession

The good news is that there are steps that almost anybody can take to mitigate the impact of a recession on their finances.

Review your monthly expenses

The obvious thing to do is to review your monthly expenses and see which can most easily be cut from your monthly spending, says House.

“Check bank statements and get out a highlighter pen to evaluate your monthly purchases and outgoings to see what can be cut.”

Cut your subscriptions

According to House, cutting out your subscriptions can yield substantial savings. This is because the average UK household spends £552 on subscriptions every year.

“This equates to roughly £46 a month haemorrhaging from accounts from subscription boxes, highlighting the age-old phrase ‘time saved, is money spent’.”

Protect your mortgage

Those who lose their incomes or face a slump in the value of their homes will find it harder to remortgage, says This is Money.

One solution could be to fix your mortgage now, so you have the peace of mind of knowing exactly how much you are spending.

“If you are in any doubt about the security of your job should the economy take a turn for the worse, fix your mortgage so you can budget safe in the knowledge that your repayments won’t go up,” says Jamie Lennox, director of the mortgage broker Dimora Mortgages.

Cut your petrol bill

As petrol prices have shot up, it is important to keep your fuel costs down.

Cut your energy bills

The Energy Price Guarantee will cap consumers’ bills until 2024, but bills will still be going up by £500 from April 2023, so it’s important to find ways to save on your energy bills.

Setting up a direct debit is a useful strategy in reducing your energy bill as it lowers the cost by roughly 7%, and also means you won’t miss a payment. Installing a smart meter can also help you manage your energy costs.

You can also reduce the temperature at which you shower and make sure unused appliances aren’t switched on.

It’s also worth looking into which appliances are most cost-efficient for cooking and drying your clothes, as well as the cheapest way to heat your home. We have compared different appliances and heating methods.

The UK’s economy shrank by 0.2% in the three months to September, the latest figures from the Office for National Statistics (ONS) show. The Bank of England (BoE) expects the contraction to mark the start of a prolonged recession.

A country is considered to be in a recession after two consecutive quarters of negative economic growth. As things stand, the BoE has predicted a five quarter-long recession.

Why is the UK economy shrinking?

The services sector saw no growth over the quarter due to a fall in consumer-facing services as households spent less money to cope with the rising cost of living.

Growth in the construction sector slowed however output did rise by 0.6%. Production output fell 1.5%.

“It’s no surprise the service sector is shrinking,” says Danni Hewson, a financial analyst at AJ Bell. “People are having to spend more to buy less, and they’re terrified of what a cold winter might do to already battered budgets.”

As for the manufacturing sector – it’s “struggling with a double whammy of rising energy prices and a shortage of some raw materials”, says Hewson.

While the 0.2% fall “isn’t as bad as many economists had been expecting” it is still “in a tricky place.” The economy is now 0.2% smaller than it was before the Covid pandemic. It seems unlikely things will settle any time soon as businesses struggle with rising inflation and rising interest rates.

Initial figures showed gross domestic product (GDP) fell by 0.6% in September 2022, however the ONS pointed out data for this month was affected by the bank holiday for the Queen’s funeral.

Are we heading towards a recession?

Yes. The BoE expects this to be the longest recession since records began and said unemployment will nearly double.

“We are not immune from the global challenge of high inflation and slow growth largely driven by Putin’s illegal war in Ukraine and his weaponisation of gas supplies,” said chancellor Jeremy Hunt.

“I am under no illusion that there is a tough road ahead – one which will require extremely difficult decisions to restore confidence and economic stability,” Hunt said. “But to achieve long-term, sustainable growth we need to grip inflation, balance the books and get det falling. There is no other way.”

The BoE has been raising interest rates as it attempts to bring inflation back down to its 2% target. Currently, it’s sitting at about 10.1%.

The base rate is at 3%, its highest level since 2008. Policymakers have raised rates seven consecutive times over the last year, and a further hike is expected when the rate-setting Monetary Policy Committee meets on 15 December.

As for the chancellor – he is set to announce his first Autumn Statement on 17 November and has warned there are “difficult decisions” involving tax and spending to fill the £50bn black hole in the country’s finances. Spending cuts and tax hikes are expected.

What does this mean for your money?

The BoE has already warned of rising unemployment. Fewer vacancies could make it harder to find a job. Those already in employment might find their wages are no longer keeping up with rising costs.

Interest rates will continue to rise as the BoE tries to get inflation down to stop prices from increasing so quickly.

This will translate into higher debt repayments. Mortgages rates are currently at their highest rate since the 2008 financial crisis, and if interest rates continue to rise it’s likely that they will too.

The chancellor is expected to announce a tax freeze, potentially targeting inheritance tax, pension tax breaks, income tax, capital gains tax and National Insurance. Freezing these thresholds could push thousands of people into a higher tax bracket, raising more money for the government.

Public spending on everything from transport to welfare to education is also likely to be affected, leaving these sectors to face huge cuts.

Furthermore, inequality will continue to widen. It’s still unclear whether benefits will rise in line with inflation, though the prime minister has said he wants the government to be seen as “fair and compassionate”.

His predecessor, Liz Truss, did not commit to increasing benefits in line with rising prices however.

The latest results paint a pretty bleak picture, and we seem to be in for a long and bumpy ride.

So what can you do?

The flipside to rising interest rates is banks are offering better rates on savings accounts, especially if you’re ready to lock your money away for one, two, or five years.

If you have a lump sum sitting around in an account with an uncompetitive rate, now could be a great time to start shopping around and take advantage of the best deals currently on the market.

You might also want to consider whether now is the best time to buy a house and compare a property investment to investing in shares.

We will get a clearer picture of the government’s plan for growth next Thursday. Until then, and for the foreseeable, it seems all we can do is wait and see.

The Bank of England has set off “the most piercing of warning sirens”, says Faisal Islam on the BBC. Last week the Bank’s Monetary Policy Committee (MPC) raised interest rates by half a percentage point to 1.75%, “the largest interest-rate rise in a quarter of a century”, while forecasting that inflation will peak at 13% later this year.

Even more shocking, it is now predicting that the UK is heading for “a recession as long as the great financial crisis and as deep as that seen in the early 1990s”.

The Bank reckons that inflation will still be near double digits this time next year, while GDP will contract in the last quarter of this year and throughout the whole of 2023, say Delphine Strauss and George Parker in the Financial Times.

Inflation-adjusted post-tax household incomes are projected to shrink by an unprecedented 5% over the next two years.

“I cannot remember a central bank... being this negative about its own economy,” says John Authers on Bloomberg. Central bankers usually tiptoe around uncomfortable truths, so the bank’s “brutal honesty” is a breath of fresh air.

These forecasts mark the end of any talk of striking a careful balance between supporting growth and fighting inflation. Clearly, the MPC has decided that “it has no option but to engineer a more severe economic downturn in order to bring inflation down”.

A day late and a pound short

The Bank has embarrassingly failed to achieve its only job – to keep inflation at 2%, says Alistair Osborne in The Times. “In what other job can you miss your only target by a factor of six and still take home [governor Andrew] Bailey’s £575,338-a-year pay?” Interest rates of 1.75% look like a “peashooter” in the face of this inflationary monster.

While the Bank is keen to blame everything on Russia’s invasion of Ukraine, inflationary pressures have been “bubbling up for ages: the result of a decade of easy money” and “central-bank groupthink”. It was “too slow”, adds a Times editorial, to respond to the risk that soaring commodity prices would “trigger a wage-price spiral”. Now it acknowledges that “the greatest risk... lies in the tightness of the labour market”.

Still, history hardly suggests that removing its independence or “allowing politicians greater sway over how much and when interests rise” would be preferable, says Robert Peston in The Spectator. The independence of the Bank of England, granted in 1997, has helped the UK to command the confidence of bond markets. Politicians’ influence over interest rates helps explain why in the 1980s the UK paid between 9% and 13% to borrow for ten years, compared with 6%-8% paid by West Germany, where the Bundesbank was already independent.

As former MPC member Kate Barker tells Oliver Shah in The Times: “If you look back at the benefits that were originally delivered in 1997, and you saw the increased confidence in the bond market that came from Bank independence… with the level of borrowing that we have recently done, and maybe intend to do, it would seem a very funny time to give that up.”

See also:

Central banks can’t solve our current economic problems

Why do we use the weights and measures we do?

“The central-banking playbook of the 2010s is failing,” says The Economist. Policymaking that was designed for an era of low global inflation is leaving central banks “slow on their feet” and behind the curve on inflation. Now they are racing to catch up. Last week, America’s Federal Reserve raised interest rates by 0.75%, the biggest hike since 1994. The Fed wants investors to believe it will act decisively to tame inflation, “yet it is loath to admit that doing so will probably require a recession”.

The historical record is not encouraging, agrees Jon Sindreu in The Wall Street Journal. “‘Soft landings’ are easier to find in the legendarium of central banks than in historical reality.” Of the 12 times since the 1950s that the Fed has embarked on a major tightening cycle, “nine ended with a recession… The BOE [Bank of England] has a better record, but roughly half of its rate-increase campaigns since the 1950s still ended with a UK recession”. For tighter monetary policy to have any effect on inflation it needs to mean pricier credit or lower asset prices. “That this can happen without affecting anyone’s ‘real’ material conditions is wishful textbook thinking.”

The sell-off widens

Asset prices are certainly slumping. Both the S&P 500 and the tech-heavy Nasdaq index have lost ground in ten of the past 11 weeks. The S&P 500 suffered its worst week since March 2020 last week, plunging 5.8%, and is down 22% so far this year in total return terms. That puts it on track for its worst first-half performance since 1932, says Jim Reid of Deutsche Bank. Bonds, a traditional safe-haven, have offered no respite either, since ten-year Treasuries are currently on track for their worst first half since 1788.

Talk of a coming recession has also started to weigh on commodity markets, says Randall Forsyth in Barron’s. Nearby crude-oil futures ended the week at $109.56 a barrel, down 9.21%. Meanwhile, copper, the most “economically sensitive commodity”, has fallen by 18.5% since it reached a high in March.

The Bank of England bottles it

While the Fed resorts to “shock and awe” tactics to tame inflation, the Bank of England is “playing a game of slowly, slowly”, says Laith Khalaf of AJ Bell. The day after the Fed’s three-quarter point interest-rate rise, the Bank’s monetary policy committee (MPC) followed with a far more cautious 0.25 percentage-point rise of its own, taking UK interest rates to 1.25%. Such “an incremental strategy allows the rate-setting committee to observe more data as it comes in, and fine-tune its approach as circumstances dictate”.

The modest increase was typical of the “head-in-the-sand behaviour that has cost the Bank of England so much of its inflation-fighting credibility”, says Liam Halligan in The Daily Telegraph. Tweaking rates is hardly an adequate response when annual inflation is running at more than four times the 2% target and the Bank itself expects CPI inflation to peak at 11% this autumn. “The MPC needs to demonstrate that it… can beat inflation – before its independence is taken away.”

Japan bucks the tightening trend

The Bank of Japan (BOJ) has its printer “on overdrive”, says George Saravelos of Deutsche Bank. While other global central banks tighten policy, Japan is resisting pressure from markets to follow suit. At the current pace, it’s on course to buy ¥10trn in government bonds this month. Relative to GDP, that equates to the US Fed buying $300bn of bonds per month; in reality the Fed bought $120bn per month last year. Is the BOJ so determined to generate inflation that it is “willing to absorb the entirety of the Japanese government bond stock?”

The BOJ’s decision to buck the global tightening trend has sent the yen down 16% against the dollar so far in 2022, to its lowest level in 24 years. Investors are sceptical about Japan’s ability to keep money easy for much longer, says Reshma Kapadia in Barron’s. Japan’s “decades long battle with deflation” explains the BOJ’s reluctance to recognise the new danger. Inflation remains low for now – at 2.5% – but a weak yen makes imports expensive, which is a severe concern for a major energy and food importer. Meanwhile, the ageing population relies on fixed income. “Inflation is kryptonite to those assets.”

Traders who think the BOJ will be forced to tighten policy have been shorting ten-year Japanese government bonds (JGBs), sending yields towards the 0.25% cap that the bank targets. Betting against the BOJ is a dangerous play, so dangerous in fact that it is “known in bond markets as the widowmaker trade”, say Anna Hirtenstein and Julie Steinberg in The Wall Street Journal. Yet with inflation stirring, some believe that this time is different. “I don’t really see how they can hold this. We are positioned for them ultimately having to move to a different policy,” says John Roe of Legal & General. “A surprise BOJ move could trigger substantial turbulence in global markets

Earlier this week, the Federal Reserve raised interest rates by three quarters of a percentage point. (That’s 75 basis points, or bps, in the financial jargon – so now you know what that particular acronym means).

That wasn’t a surprise for markets, but only because the surprise had been sprung a couple of days earlier, when inflation hit a new 40-year high and markets were primed – via well-connected journos – to expect a big rise rather than just half a point.

The Bank of England needs better communication skills

Yesterday, the Bank of England declined to copy its larger peer.

It raised interest rates by a quarter point. Six of the nine-member Monetary Policy Committee (MPC) voted to raise rates by the quarter point, while three wanted to go further with the half point. So the Bank of England rate is now 1.25%.

Markets had half-expected a bigger hike in reaction to the Fed’s big rise. But the Bank of England right now is in a major quandary, one only rivalled by that of the European Central Bank (which has a lot more countries to take into account).

Yes inflation is high and only getting higher (the Bank now reckons it’ll go above 11% in October, and bear in mind, this is using the consumer prices index (CPI). Under the Bank’s previous target measure – the retail prices index minus mortgage interest costs (RPIX) – inflation is already sitting at more than 11%, so presumably that’ll be pushing 14% by then.

However, the UK is also flirting with recession. While the Bank became gloomier on inflation it also became gloomier on growth prospects. So you can see the argument for not raising rates too fast. The problem is that the Bank isn’t great at communicating or conveying any sort of confidence.

As Simon French, chief economist at Panmure Gordon pointed out on Twitter, “for good economic governance the hard work is explaining why an undersized move vs developed market peers. There is a narrative about balance of risks/confidence in policy path, but must be credible”.

In other words, the Bank needs to demonstrate more conviction in its lack of conviction.

Anyway, this divergence from the Fed saw the pound slide rapidly in the aftermath of the decision, although sterling rebounded later in the day after several US economic data releases turned out to be very disappointing (implying that perhaps the Fed is already tightening too much).

The Swiss turn hawkish but the Bank of Japan sticks to the plan

Flipping back to the hawkish side, the Swiss National Bank – Switzerland’s central bank – decided to surprise markets too yesterday, when it raised interest rates. Swiss rates were increased all the way from negative 0.75% (yes, negative) to negative 0.25%.

It may come as a surprise to anyone who doesn’t obsessively monitor global interest rates that Swiss rates are still negative. However, note that Swiss inflation is still only running at a bit below 3%. So in “real” terms, UK rates are a lot more negative than Swiss rates.

But back on the dovish side, we had the Bank of Japan (BoJ) this morning. The BoJ is probably the single most interesting central bank on the planet right now, which is not always the case by any means.

The BoJ put in place “yield curve control” (YCC) about six years ago. It declared that the ten-year Japanese government bond would essentially be fixed at 0%, and not allowed to move more than a quarter of a percentage point around that band.

In effect, the BoJ said it would print as much money as necessary to buy bonds if the yield went above 0.25%, or that it would sell bonds if the yield went below negative 0.25%.

When the BoJ did this, negative 0.25% seemed a much bigger risk than positive 0.25% (indeed, the latter would have been welcome). The point of YCC at the time – or at least one of the reasons for doing it – was to give the Japanese banking sector at least some way of generating profits by making sure there was at least a bit of “spread” (that is, gaps between the cost of borrowing over different lengths of time) in the system.

But now, with inflation rising – yes, even in Japan – and global bond yields doing likewise, the market is challenging the BoJ’s resolve. And so far the BoJ is not backing down.

At its latest meeting this morning, it said it will stick with YCC and it won’t be allowing the ten-year to rise further.

The tricky thing then though, is that this pressure has to come out somewhere. And that somewhere is in the currency.

Historically the Japanese yen has been a “safe haven” currency. It’s somewhere that investors used to run to in a market panic (partly because the yen was also a “carry” currency – big investors would borrow it at low rates to invest elsewhere in the good times, then have to rush back and buy yen back during “risk off” periods).

But that’s no longer the case. The yen is now trading at around 134 to the US dollar, the sorts of levels unseen in about 20 years.

Here’s why the 1970s is such a good analogy for today

What does all of this mean for investors?

No one has a crystal ball. But most of us have spent our adult lives investing in a market which relied on central banks to anchor it. The global political situation was benign. We’d enjoyed a “great convergence”. European countries were converging to form the eurozone. Once-communist countries were waking up to the benefits of capitalism, and democracy surely couldn’t be far behind. To use the much-abused term, it was the end of history.

Politicians basically agreed on everything. Markets were the only game in town. And, underpinned by central banks, embodied in the “maestro” Alan Greenspan, they could really only go up.

This was largely an illusion, and one which spent most of the 2000s becoming steadily thinner, with significant ruptures in 2008 and 2016. Now it’s pretty much out in the open.

Politics is no longer benign. Countries are diverging, rather than converging. Capital is no longer free and easy and can no longer expect to be treated well or welcomed with open arms in every destination.

Central banks cannot fix this. Whatever options they take will exacerbate one problem or another. And political “solutions” – whatever they are – will not be driven by the best interests of investors.

This, more than anything else, is why the 1970s is probably the best analogy for today. Politics, not markets, is pre-eminent. And that means anything can happen.

We’ve got more on that analogy in this week’s MoneyWeek magazine. If you don’t already subscribe, I suggest you do now. You’ll get your first six issues free.

The position of central bankers today “recalls an old joke about a cab driver telling a lost tourist asking for directions: If I were you, I would not be starting from here”, says John Plender in the Financial Times. The Bank of England has warned that inflation will top 10% later this year while issuing gloomy growth forecasts. As central banks “try to engineer a soft landing” the risk of a “policy error” that crashes the economy is high.

“The Bank of England is skirting around the ‘r’ word but its grim set of growth forecasts all but confirm that the UK is heading for a recession next year,” says Mehreen Khan in The Times. Policymakers last week raised interest rates by 0.25 percentage points to 1%, the highest level since February 2009. Three of the nine members of the monetary policy committee wanted to go further and voted for a 0.5% rise. Markets now expect UK interest rates to keep rising until they hit 2.5% next year.

Racing out of control

“For more than a year now, Threadneedle Street has kept its head in the sand”, even as it became clear that inflationary pressures in commodity and labour markets were racing out of control, says Liam Halligan in The Daily Telegraph. Policymakers argue that the war in Ukraine has changed the outlook, but that is nonsense. In January – pre-invasion – “CPI inflation was already at 5.5%, a 30-year high”. Caught behind the curve, the bank will now have to raise rates faster, inflicting unnecessary economic pain on households in order to “slay the dragon” of price rises and win back some of its battered credibility.

In America, the Federal Reserve has gone further. Last week it raised interest rates by half a percentage point and also started the process of unwinding “its huge bond holdings”, says the New York Times’ DealBook. The move “signals urgency” about getting inflation back under control. Fed chair Jerome Powell said that further half-point increases are “on the table”. Until recently the Fed had “believed that inflation would ease as supply shortages moderated and as the economy evened out after early-pandemic disruptions”. Now renewed lockdowns in China and the war in Ukraine mean that “the notion of a return to some kind of pre-pandemic normal without intervention has been abandoned”.

Stockmarkets are getting the message that the Fed is serious about tighter policy. The S&P 500 has suffered five consecutive weeks of losses, its longest losing streak since 2011, and is down more than 16% since its peak. That’s the worst four-month start to a year since 1939 and a technical bear market (defined as a 20% drawdown) seems imminent. On Monday, global shares, as measured by the FTSE All-World index, had their worst day since June 2020.

“Unfortunately for investors, the Federal Reserve probably doesn’t feel their pain,” says Justin Lahart in The Wall Street Journal. In the past the Fed has taken pains not to sink the stockmarket, but today inflation-fighting has become its priority. With valuations still high and US labour markets robust, they have little reason to pause the rises. There is likely plenty “more pain in store for stocks”.

The Bank of England raised interest rates by a quarter point today – the UK’s bank rate is now sitting at 1%. Those are lofty heights that haven’t been seen since 2009.

But that wasn’t a surprise. The markets had expected that. The mix wasn’t a massive surprise either – six members of the rate-setting Monetary Policy Committee (MPC) voted for the quarter-point rise, and the other three voted for a half-point hike.

What was perhaps more surprising – to the market at least – is just how gloomy the accompanying tone was. For starters, the Bank said that it reckons inflation is set to peak at 10.2% in the fourth quarter of this year.

Not very long ago, it was hoping that it would peak at around 8% during the current quarter. That forecast always seemed a little optimistic. However, this looks very much like throwing in the towel.

And let’s bear in mind that this is inflation as measured by the consumer price index (CPI), which almost always runs colder than the retail price index (RPI). CPI at 10.2% implies RPI of closer to 11% or even 12%, which is the sorts of levels we haven’t seen since the very early 1980s.

It’s the Bank’s job to control inflation. It’s meant to keep it at around 2% (to be precise, within one percentage point either way). It’s reasonable for the Bank to acknowledge that it can’t do anything about “global supply problems or the energy prices that are currently pushing up inflation”.

But over 10%? Last time inflation was at that sort of level, the Bank rate was in double-digits. And yet, the Bank is being very careful about promising further rate rises.

Here’s what it says in the Ladybird version of its monetary policy report: “We may need to increase interest rates further in the coming months. But that all depends on what happens to the economy. In particular, we will be watching closely what is likely to happen to the rate of inflation in the next year or two.”

The Bank is not cheerful on the outlook

So why is the Bank reluctant to use what is its only real tool in the fight against rising prices? Well, it’s because those same rising prices are making our economic prospects look really grim.

“Prices are likely to rise faster than income for many people. That means the cost of living for many people will rise.” In turn, that will “lead to slower growth overall.”

In more detail, the Bank notes that it expects household disposable income to endure its second-worst fall on record (ie, since 1964) this year, and for GDP to shrink in the fourth quarter. It also expects unemployment to rise too.

Weak or non-existent growth combined with double-digit inflation lands us square in a world of “stagflation”, which is arguably the worst economic mix thinkable for investors. You’ve got a very weak economy and lots of pressure on companies and individuals, but your central bank can’t do anything to “help” (ie, it can’t cut interest rates or print money) because that would only make inflation worse.

The Bank is crossing its fingers and hoping that 2023 will see lots of inflationary pressure dissipate (because commodity prices don’t rise any further, and global supply chains ease up). But clearly there’s a lot of uncertainty in that forecast.

So here’s the Bank’s story in summary: inflation is going to shoot up, and growth is going to collapse, and we can’t really do much about it.

No wonder the pound tumbled from nearly $1.26 to closer to $1.24 on the news. Sterling was already in the doldrums but the Bank has managed to punch it even lower.

Is the Bank of England too gloomy?

Has the Bank gone from being too calm about inflation to now overcompensating in the other direction? The answer is “maybe”.

As Simon French, chief economist at Panmure Gordon, pointed out on Twitter, “you would only believe the BoE’s growth forecast was a fair reflection of the likely economic path if you think the UK’s energy price cap goes up by a further 40% in October and the government does diddly squat.”

This is a very good point. If energy prices really do end up shooting up again by that amount in October – as we’re heading into winter – you have to imagine that the government would intervene in some way. The politics almost dictate it. And again, it’s possible (though who knows) that prices simply won’t go up by that much come October.

Fingers crossed. In the meantime, the uncertainty over the future direction of interest rates and the ugly growth outlook might – oddly enough – make it less likely that mortgage rates rise rapidly, but it’s still worth reviewing your present circumstances and making sure that you’re on the best mortgage deal.

SEE ALSO:

Too embarrassed to ask: what is stagflation?

Here’s why markets welcomed America’s big interest rate rise

Mortgage rates have hit a five-year high – is it time to fix?

The Bank of England raised interest rates as expected yesterday.

They’re now sitting at 0.75% – that’s back to pre-pandemic levels.

It also happens to be the highest level that UK rates have reached during the post-financial crisis period.

Will we ever get back to 1%? And what do rising rates mean for your money?

Interest rates are now at their highest since the financial crisis

The Bank of England may have raised interest rates to 0.75%, but it didn’t sound too enthusiastic about it.

In February, with inflation making everyone very nervous, four of the nine monetary policy committee (MPC) members wanted to raise rates by a full half point. This time, eight voted for a quarter point, and one voted for no rate rise at all.

Meanwhile, those poring over the accompanying statement (the ancients had chicken entrails, we have monetary policy statements – progress, from an animal welfare point of view at least), noted that the MPC now thinks that further tightening “may be” appropriate. Last month, they said it “is likely”.

No doubt about it, the MPC feels less comfortable with raising rates than it did a month ago. As a result, the pound fell somewhat in the wake of the announcement (tighter monetary policy usually means a stronger currency, while looser monetary policy will usually push it lower).

What’s changed? The irony is that the MPC’s cold feet come even though they now expect inflation to be even worse than they had previously expected.

The war in Ukraine has sent commodity prices even higher. That is likely to “accentuate both the peak in inflation and the adverse impact on activity by intensifying the squeeze on household income”.

So inflation will be higher. The MPC had guessed that inflation for April would come in at 7.25%; it now expects to see around 8%.

Just as a reminder here, and one that might give you nightmares – the last time the consumer price index was above 8% (in the early 1990s), the UK base rate was above 10%.

Mortgage rates at that level would of course cause a massive house price crash (indeed, they caused a house price crash back then too), which is just one of many reasons why they’re unlikely to go to that level.

Anyway, getting back to the main point – the MPC thinks inflation will be higher. So why has that made it less rather than more keen to raise rates?

The point of interest rate management

Let’s take a step back for a moment.

Interest rates are an economic policy management tool. Broadly speaking, if you put interest rates up, it becomes harder to borrow and more attractive to save, and you get less money flowing around the economy.

If you put rates down, it becomes easier to borrow and less attractive to save, and you get more money flowing around the economy.

If there’s too much money flowing around the economy, you get inflation. If there’s not enough, you get deflation. At the extremes, both of these are disruptive to economic growth.

Central bankers settled on 2% as a good inflation target in the late 1980s, mostly because New Zealand had found that 2% seemed to work quite well for them in their efforts to get inflation under control.

I’m telling you all this to get the point across that none of this should be viewed as “settled science”. This is not gravity we are discussing; in many ways, it’s more like the rules of a board game which hasn’t been play-tested terribly thoroughly.

Anyway, the basic point is to try to keep interest rates at a level which should optimise the long-term health of the economy: keep people in jobs, keep prices broadly under control, minimise shocks and recessions – that kind of thing. The 2% inflation target was deemed the best performance indicator on that front.

People like me – those who lack faith in mainstream economic explanations for things and in the ability of a handful of human beings to establish the “correct” discount rate for everything – would argue that the 2% target just gave licence to central bankers to add fuel to asset bubbles, aided and abetted by politicians, during the late 1990s and early 2000s. That in turn helped to create the perfect conditions for the financial crisis.

But that’s another diversion. Let’s get back to the matter in hand.

There are no good choices here

The difficult thing for central banks right now is that the headline inflation is being driven by the rising cost of necessities. If petrol and heating cost more, you have less money to spend on other goods. So you can argue that the rising cost of “needs” acts similarly to rising interest rates – it represses economic activity and is in fact disinflationary.

Hence the Bank of England’s reticence about raising rates. High prices should already do the job of demand destruction – why raise rates as well to compound the misery?

There’s a logic to that, but there’s also the risk that if inflation keeps going up, it starts to change behaviour. People spend faster because they can see the value of their money declining; people demand higher wages because they can’t afford to live otherwise.

The role of the central bank then becomes a psychological one. You break the inflationary cycle by making it appear that you won’t tolerate it. In reality, the only way to do that is to raise rates until it hurts (ie by causing a recession).

You’ll note one thing here – there are no good outcomes, regardless of what the Bank of England does. Savers aren’t going to get a rate that gets anywhere near meeting inflation; borrowers are likely to see interest rates go up a bit.

The cost of living squeeze will continue – this is the sort of thing that only government spending can alleviate in the short term, and I suspect that Rishi Sunak is reluctant to do a lot more of that.

We’ll keep an eye on the spring Budget next week to see if he does anything on the energy front or delays the rise in National Insurance rates. But in the meantime, all you can do about this is to monitor your personal finances more intently than you may feel you’ve had to for several years now.

Today, the Bank of England raised the key UK interest rate by a quarter of a percentage point to 0.5%. That’s exactly what it was expected to do. It did so by five votes to four – in other words, five members of the nine-member rate-setting Monetary Policy Committee voted in line with market expectations.

However, what has rather taken markets aback is the fact that the other four – as you might assume – did not vote to keep rates at 0.25%. No, they voted to raise rates by a full half a percentage point, to 0.75%.

For perspective, obviously, this is still very near an all-time low. But from a different perspective, the UK bank rate is now five times higher than it was a scant two months ago (rates went up from 0.1% to 0.25% on 16 December last year).

Quantitative easing programme to be unwound

Moreover, the Bank is going to unwind quantitative easing (QE). QE involves printing money to buy assets. Those assets – mostly government bonds – sit on the Bank’s balance sheet. One key point about bonds is that they eventually mature; thus far, the Bank has been maintaining QE by reinvesting the proceeds of maturing bonds as they do so.

The Bank is now going to stop doing that. So, in effect, when government bonds held by the Bank of England reach their payback date, the government will need to find a new borrower to lend them the money to repay that loan (whereas previously it would just have “rolled over”). That’ll amount to just over £70bn bonds during 2022 and 2023, and another £130bn over 2024 and 2025.

On top of that, the Bank is also going to sell off the corporate bonds that it has purchased.

Most importantly, the Bank’s attitude has changed drastically. In November, markets were also shocked, but back then, it was because Andrew Bailey, head of the Bank, had led them to believe that a rate rise was a dead cert, then switched tack at the last minute.

Now, inflation is public enemy number one again. It’s expected to peak at 7.25% in April – remember, this is the CPI measure, so RPI could easily be just under double-digits by that point (here’s what the difference between CPI and RPI inflation is, and why it matters).

That’s even while the Bank is warning consumers that there are tough times ahead. It reckons that the squeeze on spending created mostly by higher energy prices (though it nods to the increase in National Insurance scheduled for April too), along with excess supply building up as supply chain bottlenecks ease off, is going to drive the unemployment rate up to 5% by the middle of next year.

Meanwhile, energy prices might stop contributing to higher inflation rates but only because they “are assumed to remain constant after six months”. How realistic that assumption is is hard to judge, but even if energy prices remain where they are, that is quite the squeeze on consumer spending.

Get ready for stagflation

None of these things is inflationary in the sense of making the economy overheat. They are stagflationary, in the sense that prices rise but the price rises themselves choke off growth. If your energy bill goes up by 50%, that’s money you can’t spend on anything else; it does not boost demand in the economy.

The Bank even acknowledges this. “The sharp rises in prices of global energy and tradable goods of which the UK is a net importer will necessarily weigh on UK real aggregate income and spending. This is something monetary policy is unable to prevent.”

So why is the Bank raising rates then? “The role of monetary policy is to ensure that, as such a real economic adjustment occurs, it does so consistent with achieving the 2% inflation target sustainably in the medium term, while minimising undesirable volatility in output.”

I have to admit that this mostly sounds to me like pure self-justifying gobbledegook. The Bank will be told off for not meeting the 2% inflation target. By raising rates a bit, it can at least say “but we’re trying”.

Anyway – if you have a variable-rate mortgage, you’ll notice the difference quite quickly, so maybe consider switching. If you have savings, you’ll notice the difference rather more slowly I suspect, so it might be worth starting to shop around there too – though I wouldn’t lock in any rates yet, given that more rises are apparently set to come.

Last night, the Federal Reserve, America’s central bank, announced the results of its last interest-rate setting meeting of 2021.

Markets had been waiting with bated breath. The US central bank was expected to speed up “tapering” (ie, winding down its money printing). As it turned out, the Fed was even more “hawkish” than forecasts had suggested.

Did markets fall off a cliff in shock as a result? No, quite the opposite in fact.

The Fed was more hawkish than expected

The Federal Reserve has decided to double the pace at which it is tapering away quantitative easing (QE). As a result, the current phase of QE will end in February. Members of the Fed’s version of the Monetary Policy Committee also expect to raise interest rates three times next year.

This is all quite a long way from the views and opinions held just a few months ago, when as many as half of those expressing a view thought that there would be no rate rises at all next year (this is the infamous “dot plot” diagrams that now accompany each meeting, showing where Fed decision makers expect interest rates to be over the coming few years).

In short, this was not a central bank which is merely content to “let inflation rip”. So the obvious question is: why did share prices shoot up after the Fed was done? And why did even gold – widely, if not entirely correctly, deemed an inflation hedge – go up?

A few things might be going on here. One is that this is just a classic of the “sell the rumour, buy the news” variety. In the run-up to the meeting, investors have been like cinemagoers at a horror film.

Just as in a horror film, the tension mounts and mounts. By the time of the big reveal, the viewers’ imaginations are running wild with what awfulness might be unveiled. But when the mask does come off, it doesn’t matter how ugly the monster is – it’ll never be quite as ugly as the audience thought it could’ve been.

Similarly, Fed boss Jerome Powell has been warming investors up for this for ages. That meant they were positioned for potential disaster by the time the actual meeting came around. Instead, they got something that sounded aggressive, but which they realised could have been worse.

So that’s one reason why markets may have rebounded: investors were hedging against a proper crash; they didn’t get it and they closed the hedges.

Another is that markets might like the idea that the Fed appears to be taking inflation seriously. At the end of the day, investors realise that there’s a point at which inflation becomes very disruptive to markets. Maybe they are betting that the Fed can prevent the worst of the inflation without necessarily tipping the whole debt pile over in the process.

The Fed still doesn’t think inflation is here to stay

However – and this is related to that last point – most of the cheery reaction might also just be because it’s clear that the Fed still thinks that inflation is “transitory”, even if it is taking it a bit more seriously.

The Fed got rid of the word “transitory”, but only because it got annoyed with people taking that to mean a fixed period of time – and a short one at that.

Instead, the Fed got its thesaurus out and found a collection of phrases and sentences that mean the same thing as what it likes to pretend it meant all along. In other words, the Fed still thinks that inflation is an issue caused by supply chain woes that will eventually be ironed out as re-opening continues.

This is backed up by the dot plot. The number of interest-rate rises might have been pulled forward, but in the longer run, there’s no indication that inflation is here to stick around. In fact, as John Authers of Bloomberg points out, “the Fed’s governors still believe that rates will never need to go higher than 2.5% where Fed funds peaked in 2019".

In other words, the Fed is still predicting a low-rate, low-inflation environment, even if it feels the need to wave a big stick around right now. Business as usual, if with a slightly growlier tone.

Powell also reassured markets that he’s aware of their fragility, and that he’s willing to change course as needs be. “If the economy were to slow, then that would slow rate increases”.

As a result of all this, investors got their “buy the dip” hats back on and pushed the Nasdaq 100 index back up from its recent slip. Of all the major global indices, the Nasdaq is one of the most tech-heavy and therefore arguably interest-rate sensitive.

Will this continue? Barring any big surprises, the biggest central bank meeting of this year is now done and Powell has reassured traders that he’s not going to pull a Paul Volcker on them. It seems likely to me that the “Santa rally” that everyone has come to expect can now kick off without fear.

But as a long-term investor, you’re not worried about what happens over the next few weeks. Instead, I think you should take this to mean that for all the talk, the Fed is not particularly concerned about inflation and remains very wary of tightening monetary policy too aggressively.

The real goal is to manage inflation of around 3%-4% a year for a good few years, without upsetting the financial apple cart. That’s going to be a real challenge, and one that I suspect will be very hard to pull off. So make sure your portfolio has some inflation insurance, and that you also have the optionality to buy as and when the inevitable bouts of panic strike.

In the middle of last month, Bank of England governor Andrew Bailey warned – sternly enough to make headlines – that “we will have to act” on inflation.

Markets rapidly priced in an immediate rate rise in November. Headlines suddenly sprung up panicking about what it meant for the housing market. Sterling shot higher in anticipation of the virtually-certain rate hike to come.

So when midday came yesterday and the Bank revealed that rates would stay right where they were, at 0.1% – well, markets were understandably a little surprised.

The Bank of England’s twitchy eyebrows

Bank of England governor Andrew Bailey is rapidly learning all about the power of the governor’s raised eyebrow when it comes to markets.

He – clearly inadvertently – gave markets the impression that a rate rise was 100% certain yesterday. Yet, as it turned out, the Monetary Policy Committee (MPC) – whose nine members vote on what to do with monetary policy every month or so – were pretty firmly against raising either interest rates or withdrawing quantitative easing (QE) any faster than planned.

They voted seven to two against raising rates, and six to three to continue with QE until it’s done (which is shortly, in any case).

Now, the Bank isn’t saying it won’t ever have to raise rates. Indeed, it keeps saying that in the coming months, an “increase in Bank Rate” will be needed “to return CPI inflation sustainably to the 2% target”.

But it’s also clear that the MPC thinks that rates won’t have to go as high as the market had been expecting ahead of the meeting. The Bank reckons that if rates hit 1% by the end of next year (as the market had forecast) then inflation would be back below 2% by the second half of 2024, which is not what the Bank wants.

In other words, it was all a lot more “dovish” than expected. As a result, sterling plunged, and market expectations for future rate rises fell sharply.

So what changed? Anything? I skimmed my way through the post-meeting press conference yesterday. A few things stood out.

One reason the Bank may have had for waiting is that we probably haven’t had a sufficiently clear view yet as to how the end of the furlough scheme might affect the employment data.

Another point is that the term “transitory” is pretty meaningless. It doesn’t refer to a time. It basically just means: “factors which we hope we can dismiss as temporary”. This implies that they can pull “transitory” out of the hat for as long and as often as they like.

The third point is connected to the one above. The big thing the Bank is worried about (or perhaps pinning its hopes on) is energy prices. On several occasions, it made the point that inflation is really pretty dependent on what happens to energy prices.

So really, the message is “steady as she goes”. From an investment point of view, the message is also “don’t expect your savings rate to go up any time soon”. Financial repression will continue.

Central banks can’t control inflation – they just got lucky

There’s a bigger point here. It’s not necessarily an easy one to digest but I think it’s worth raising so we can mull it over in future articles.

There’s a great deal of logic to the points made by various central bankers. What can higher interest rates do to curb high oil prices? After all, in terms of spending, higher oil prices effectively act as a tax on consumers – if you need to spend more on petrol, that bites into your disposable income.

And what can higher interest rates do to deal with supply chain problems? I mean, yes, you can artificially choke off demand to an extent, but is that really productive in the circumstances, particularly as you can argue that the higher demand goes, the more incentive suppliers have to sort it all out?

So, in lots of ways, central banks can’t really do anything about inflation – at least, certainly not in the “fine tuning” sense that we’ve grown accustomed to in recent decades.

But once you go down that route, you have to start thinking: well, what’s the point of them then?

When inflation breaks out, it’s always transitory. The 1970s is associated with soaring oil prices. There was nothing central banks could do about that. But inflation stuck around.

Yes, you can argue that this was due to higher wages and higher levels of unionisation. But again – what’s that got to do with central bankers? A changing political atmosphere (and the shifting economics of energy supply) is what did for the unions, not central bankers.

What can central banks do?

In extremis, they can underpin the financial system, acting as lender of last resort – bailing out the banks, basically. That stops financial crises from turning into depressions.

At the other end of the scale, they can impose recessions by raising interest rates to painful levels. That’s what Paul Volcker did in the early 1980s, with the Federal Funds rate hitting 20% in 1981 (though note that inflation peaked more than a year before that, at just under 15%).

Other than that, inflation and disinflation are dictated by external forces. Why has inflation been low and falling in the last three decades? Because the global labour force grew explosively, while technology – the internet, largely – relentlessly drove down prices.

The first factor is over. And by the looks of it, unless we unlock fusion power any time soon, so is the second. So central banks have ridden a wave of disinflation and effectively squandered the benefits by using a 2% inflation target – plucked largely from thin air – to justify propping up asset prices.

And if this is the case, then all that central banks are really good for is distorting prices and thus driving the misallocation of capital. In other words, they’re serial bubble blowers. You have to admit, that fits the evidence of the last 30-odd years pretty well compared to other theories.

So what’ll happen now that we’re in a more inflationary environment? Honestly, I think the focus will remain on the asset-price-propping function until it’s no longer politically defensible to do so. Judging by yesterday’s surprise, that day is still a while from arriving.

Want to know more? Subscribe to MoneyWeek today and get your first six issues free. This is a subject that will run and run.

Britain is back in lockdown. To celebrate the occasion, the Bank of England has said that it will print more money.

In theory, printing money to buy bonds persuades consumers to borrow more money to spend, and businesses to borrow money to invest. In practice, you’d have to be stupid to believe that the average business owner is going to borrow to expand in the middle of a global pandemic when they’re actively being told to close down.

So it raises the question – what’s the point?

The Bank of England has a problem – creditworthiness is deteriorating fast

This morning, the Bank of England announced its latest monetary policy decision. It will keep the UK’s main interest rate at 0.1%. That was expected. The surprise came in the form of more money printing. Economists had expected the Bank to print another £100bn. Instead, quantitative easing (QE) was expanded by £150bn. In other words, the Bank will now buy £150bn more of UK government debt than previously planned.

What was the rationale? Well, we’re going into a second lockdown. So the monetary policy committee reckoned that “announcing further asset purchases now should support the economy and help to ensure the unavoidable near-term slowdown in activity was not amplified by a tightening in monetary conditions that could slow the return of inflation to target.”

Put more simply, the Bank knows that lockdown will hammer the economy. The Bank really doesn’t have many things that it can do about that. We talk about “tools in the box” but ultimately central banking boils down to two settings: tighter monetary policy or looser monetary policy. The tools are merely about how you go about tightening or loosening. If the economy is heading into a shutdown, then the answer is quite clear – you want to loosen.

The problem is getting that money from the printing press to the real world. Back in the day, the transmission mechanism was clear: you lowered interest rates. High street banks cut the cost of borrowing, people borrowed more and asset prices went up, creating a wealth effect. For a simple example, look at the housing market. Mortgages get cheaper, people pay more for houses, house prices go up, people feel richer, they borrow money against their house to spend on home improvements and fancy holidays, the economy grows, and so on and so on.

It’s not as easy these days. The Bank – as Marcus Ashworth and Mark Gilbert point out on Bloomberg – now has a bit of a transmission problem. Firstly, the cost of borrowing can’t come down much from here. In their current form, negative interest rates are mostly designed to punish savers, not to produce negative-interest rate credit cards and mortgages.

Secondly, there’s more to the cost of credit than the Bank of England interest rate. There’s the vexing question of creditworthiness: there’s no point in lending money to someone at any rate at all if they can’t pay you back. As Ashworth and Gilbert note, “for lenders who were already nervous about borrowers being unable to pay their debts, the prospect of a second collapse in growth will prompt them to rein in their support even further.”

If you’re well off, with a secure job, and – the most important point – you already own a house with plenty of equity, the cost of a mortgage hasn’t changed much. But the average rate on a two-year fixed-rate mortgage, with a 10% deposit down, is now at above 3.3%, the “highest level in more than five years”.

Who is the Bank really printing money for?

Let’s be clear. The Bank’s extra money printing does nothing directly to push the high street banks into making cheaper loans. These are commercial organisations. Unless the government actively indemnifies them against losses made on their loans, then they have to consider creditworthiness, and however you look at it, a nationwide lockdown reduces creditworthiness on average.

In other words, lockdown tightens monetary conditions. If the Bank wants to push against that – which it does – then printing more money is about the only option it has (they’re still looking into negative interest rates apparently).

So what does it do? Sometimes printing money is useful for weakening the currency. In the eurozone, for example, that’s important because many of its member states struggle with an overly strong Germanic euro when they need a weaker Italian euro. But it’s not such a big deal for the UK. Sterling has been trading on the Brexit discount for four years now and our economy rarely flirts with deflation. So this isn’t about the currency.

The only real transmission mechanism the Bank can now rely on is the government. The government has imposed lockdown and it’s up to the government to figure out measures to minimise the impact as much as possible. That’s why Rishi Sunak is no doubt hammering away on his big calculator and an Excel spreadsheet as we speak.

It looks, for example, as though the chancellor will probably extend the furlough scheme even further beyond the planned end of the current four-week lockdown. So the Bank’s real job now is to make it as easy as possible for the government to get hold of the money that it needs in order to fund those mitigation measures. So you can see QE as simply being the act of oiling the gilt market. Make sure it's working smoothly. Make sure interest rates don’t rise or even think about spiking.

In other words, the Bank is printing money to make it easier for the government to spend. It’s not quite the same as directly financing the deficit. But it’s a long, long way from merely tinkering with the cost of credit.

This gradual creep towards pure money printing, by the way, is why we think inflation will end up being the biggest theme of the coming decades. I discuss that a lot more in the 20th anniversary edition of MoneyWeek magazine, out tomorrow. If you don’t already subscribe, get your first six issues free here.

The Bank of England’s governor, Andrew Bailey, has spoken of negative interest rates as being “in the tool bag”. Monetary Policy Committee (MPC) member Silvana Tenreyro says that the evidence for negative interest rates is “encouraging”. Yet Dave Ramsden, another MPC member, this week cast doubt on the idea that rates could fall below 0.1% without the policy backfiring.

Negative rates are supposed to stimulate bank lending by charging banks fees for any cash they leave stashed in their accounts at the Bank of England, says Ruth Sunderland in the Daily Mail. It remains an open question whether the banks would dare pass along negative rates to their own customers. Sweden’s central bank was the first country to experiment with a negative interest rate in 2009 when it began to charge banks interest on overnight deposits. Its headline interest rate went negative in 2015. The European Central Bank cut its deposit rate to -0.1% in 2014, followed by Switzerland the following year. The Bank of Japan cut its key rate to -0.1% in 2016. Negative rates have an underwhelming record as a stimulus measure. They have done little to remedy chronically weak inflation in the eurozone and Japan, says Brian Blackstone in The Wall Street Journal. They seem to have little effect on the amount that people choose to save and spend. Negative rates have also meant a miserable decade for European bank profitability.

There is evidence that negative rates reduce lending costs, but diminishing returns set in quickly. The debatable rewards of the policy should be set against the significant downside risks: inflated asset bubbles and damage to banks and pension funds, says James Mackintosh in The Wall Street Journal. Note that Sweden last year ended its negative interest-rate policy.

The new era of global central banking is well and truly underway, says Howard Davies on Project Syndicate. Last month Jerome Powell, the chair of the US Federal Reserve, announced that the central bank would become more tolerant of inflation passing temporarily above the 2% target. Last week, the Fed held interest rates close to zero and signalled that they will stay there until the end of 2023.

The new dovishness has been prompted by persistently low US inflation, which has undershot the target 63% of the time over the past decade. Where the Fed leads others will follow. The European Central Bank is currently conducting its own policy review. Some are keen for the Bank of England to follow, but matters are more complicated for the UK: thanks to the persistently weak pound, “average inflation has been more or less on target” in recent years.

Heading towards zero

The Bank of England’s monetary policy committee (MPC) held interest rates at 0.1% and continued the current quantitative easing programme at its most recent meeting. Minutes revealed that policymakers were briefed on plans to roll out negative interest rates in the future. Governor Andrew Bailey this week reiterated that the policy is “in the tool bag” but pushed back against suggestions that they will be brought in soon.

“Reading between the lines” it looks like the BoE will not be operationally ready to roll out negative rates until next spring, and then only if it wishes to do so, says Samuel Tombs of Pantheon Macroeconomics. In the meantime, policymakers will lean on more rounds of quantitative easing, which we expect to come around the new year. In the case of a no-deal Brexit, there will be even more quantitative easing and perhaps an interest rate cut to – “but not below” – zero.

MPC members will be studying the experience elsewhere in Europe, where negative interest rates are credited with arresting a deflationary spiral and boosting bank lending, says Tom Stevenson in The Daily Telegraph. Yet there is “scant evidence” that the policy increases economic activity and the effects on bank profits are dire. Beneath a certain level – known as the “reversal rate” – negative rates actually harm economic activity.

Investors adhere to the maxim that you “don’t fight the Fed”, says Jon Sindreu in The Wall Street Journal. The idea is that easy money means stocks are bound to rise. Yet this year’s tide of easy money has not lifted all boats: tech stocks have soared, but some other sectors have slumped. Perhaps there’s a simpler investment prescription for the new monetary era, David Rosenberg of Rosenberg Research tells Barron’s. The Federal Reserve’s “promise to nail rates to the floor” amounts to a giant “‘buy gold’ advertisement”.

Asset allocation is at least as important as individual share selection. So where should you be putting your money? Here's our monthly take on the major asset classes

Precious metals

Keep holding gold

The yellow metal usually performs well when markets are nervous and last month was no exception: late August, it was up by 7% since the start of the month, although it has since given back some of those gains and is still down by around 4% so far in 2015. Silver, which is more volatile than gold, also rallied initially, but gave back all of its gains to hit a new low for the year of just over $14/per oz.

We recommend that investors continue to hold part of their portfolio in gold as protection against a worsening crisis in stocks and bonds, as well as a hedge against the eventual return of inflation.

Equities

Hints of value emerging

August was a very difficult month for stockmarkets around the world. The S&P 500, which had previously been comparatively immune to jitters elsewhere, plunged by more than 10% between 17 August and 25 August. While US stocks still look expensive, pockets of value are beginning to emerge elsewhere.

The MSCI Asia ex Japan index, which is down by more than 13% so far this year, trades on a price/book ratio of 1.2, well below its long-term average of 1.7. We also like European stocks the MSCI Europe index now yields around 3.7%, after further falls in August and Japan remains attractive.

Bonds

Don't reach for yield

"Safe haven" bonds performed relatively well during August: US ten-year Treasury bond yields dropped as low as 2% on 25 August, while UK ten-year gilts fell to 1.75%. Meanwhile, riskier bonds sold off; the spread between US Treasuries and the BofA Merrill Lynch US High Yield index, the benchmark for lower-grade corporate debt, widened to 675 basis points, the highest since 2012. We continue to believe that bond investors should focus on safety and avoid being tempted to take on more risk in pursuit of higher yields.

Cash

Rates aren't going up yet

Until the latest bout of market turmoil, the US Federal Reserve looked almost certain to raise interest rates this month. But that's no longer a done deal; recent statements by Fed board members suggest that at least some of them believe that a rate rise should be pushed back until later in the year.

In the UK, Mark Carney, the governor of the Bank of England, suggested that rates are still set to begin rising in the first quarter of next year, while one monetary policy committee (MPC) member voted for an immediate rise in August's meeting. But it's clear that many of the MPC are concerned about acting too quickly, so we would not be surprised to see further delays when the new year rolls around.

Property

Construction cooling off

UK commercial property construction seems to be cooling slightly, based on the latest CIPS/Markit Construction Purchasing Managers' index (PMI). This implies that the sector is unlikely to see a glut of new space in the near future, which should help to support both rents and capital values.

Meanwhile, the US residential property market continues to strengthen, helped by record low mortgage rates. Prices were up by 6.9% year-on-year in July, according to the CoreLogic House Prices index.

A false hope

Brent crude oil, the industry benchmark, dropped below $43 per barrel towards the end of the month, before rallying 25% in just three trading sessions. Traders were encouraged by signs that suggested that US shale producers are cutting back on production faster than expected, together with speculation that oil cartel Opec was considering reducing output. But supply remains abundant, suggesting that prices will remain low for quite some time (see page 13).

Time for tin to shine

Prices of industrial metals such as copper, aluminium, lead, tin, nickel and zinc fell together in August, amid fears of weaker demand in China. The near-term outlook looks weak, with tin being the main exception. Indonesia, the world's top exporter of tin, has introduced new regulations on the production of the metal, which are already holding up exports. With London Metal Exchange tin stocks at six-year lows, prices could rally over the next few months.

The markets and financial media are obsessed with interest rates these days.

Sometimes it seems that the daily casino yo-yoing of share prices is purely driven by comments from leading central bankers such as Mark Carney in the UK or Janet Yellen in the States.

So when Carney hinted last week that UK rates could rise sooner than expected perhaps in 2014 a new round of market chatter and speculation was triggered.

But there's one point that hasn't had much coverage: rising rates could deliver a nice boost to one of the UK's largest companies BT (LSE: BT.A).

Will rates actually rise?

When Carney hinted that a rate rise would come soon, the price of shares and bonds went down a bit. Carney said yesterday that he was surprised at that reaction. But when people delved into the latest minutes of the Monetary Policy Committee (MPC) yesterday, it seemed that a rate rise should not be seen as a certainty this year.Some MPC members still think the economy has plenty of spare capacity, which means higher inflation is not likely to rear its ugly head. So bonds went back up again.

For what it's worth, I don't think interest rates are going up. There's certainly not much inflation about at the moment according to the official statistics. This is borne out too if you go to the supermarket, the petrol station or read your latest electricity bill. Prices are not going up much. In fact, lots of them are going down.

Rising interest rates have a silver lining

BT is certainly prospering at the moment. Its fibre optic broadband and move into televised sport is paying off. The company is generating shedloads of cash and is increasing dividends at 15% for the next couple of years. But there's one thing that worries even the bulls of BT shares its pension fund deficit.

Final salary pension funds are a very dry but important subject. The promise to pay employees a proportion of their final salaries in retirement is a wonderful deal for staff. But it can be a serious burden for employers.

At the end of March, BT's pension fund had a £7bn hole in it (it had assets of £40bn and liabilities of £47bn). If you are a shareholder, this pension fund hole is like a big lump of debt. More importantly, it has to be paid before you get your dividend. BT is paying an extra £295m a year into the fund for the next seven years to try and plug the hole. Big pension fund deficits mean lower share prices.

Final salary pension funds have been one of the biggest victims of low interest rates. That's because of the way companies have to account for these pension schemes. The promises to pay pensioners in the future have to be given a value in today's money.

That's done by a process called discounting'. Let's imagine that a pension fund's total liability in the future is £1bn. If we want to value that sum in today's money, we have to use a discount rate. So if all the liabilities crystallised in ten years' time they won't you'd discount the £1bn liability at 2% interest a year for ten years.

With such a low discount rate, the liability in today's money will be relatively large, but if the discount rate is 4%, the today's money liability will be smaller.

The discount rate is driven by interest rates, and as interest rates have been kept low, BT's pension fund hole has been getting bigger. That £7bn hole reduces the value of BT shares by 88p per share.

But if interest rates go up then the deficit in BT's pension fund could get smaller. For every 0.25% increase in interest rates, BT's liability goes down by £1.6bn, and its equity value increases by 20p per share. Yes, interest rates will affect the values of bonds in the pension fund, but probably not by as much to offset the reduction in the liability.

BT shares have been on a good run over the last few years but I think there's still more to go for. Some people may worry about it spending too much on televised football rights, but I think that risk is overplayed. Its fibre network gives it lots of advantages of Sky, while BT can make lots of money on broadband subscriptions with football. The shares are not desperately expensive on 13.4 times projected earnings and a growing dividend yieldof 3.2%.

And if you believe interest rates are going up, the pension fund provides another boost.

Our recommended articles for today

Investors beware: these are not benign times

What thousands of angry cabbies mean for your investments