The Bank of England has raised interest rates from 1.25% to 1.75% in an attempt to tackle the soaring cost of living and bring inflation down to its 2% target.
It marks the sixth rate rise in a row, and puts interest rates at their highest level since December 2008.
The 0.5 percentage point increase is also the largest jump in interest rates in 27 years, as rates typically move by 0.25 percentage points or less.
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At the same time, the Bank has issued the worst outlook for the economy since the 2008 financial crisis. It expects inflation – currently running at a 40-year high of 9.4% – to continue to rise, peaking at just over 13% in the fourth quarter of 2022.
It also believes that, faced with the continued rise in natural gas prices, the UK will enter a deep recession this year.
The increase in interest rates will put households under further financial pressure, as consumers battle rising energy bills, expensive fuel prices, and the spiralling cost of their supermarket shop.
Kalpana Fitzpatrick, editor of MoneyWeek’s sister site, The Money Edit, and author of Invest Now, said: “A 1.75% increase is a pretty big deal for borrowers – especially for variable-rate mortgage customers – who will see the extra cost added to their payments almost immediately.
“For savers, it is in theory good news, but in reality, the higher rates could take weeks, or even months, to filter through to saving accounts.”
We explain how the rate rise could affect your household finances, from mortgages to savings.
What does it mean for mortgage customers?
The interest rate rise will have a big impact on customers with variable-rate mortgages, as these are pegged to the official Bank of England rate.
Around two million homeowners – about a quarter of all mortgage holders – are on a variable rate: either a tracker deal, or a standard variable rate (SVR).
For someone with a mortgage balance of £200,000, the rate rise will add £624 to their mortgage costs each year – or £52 a month – according to the investment platform AJ Bell.
On £400,000 of borrowing, the 0.5 percentage point rise will mean a £1,248 increase in the annual mortgage bill, or £104 a month.
“That’s enough on its own, but coupled with all the previous rate rise increases since December last year it means mortgage holders on a tracker deal have had to stomach a 1.65 percentage point increase in their interest costs over the past eight months,” said Laura Suter, head of personal finance at AJ Bell.
Most lenders are normally quick to raise variable mortgage rates following any increase by the Bank of England, but this isn’t always immediate. For example, it may not happen until the start of September. This means you could have a small window of opportunity to protect your finances by locking into a fixed-rate deal.
It could be possible to move to a better rate with your current lender, or you could use a comparison site to compare the best rates. If you need some advice, or your situation is complicated (such as you’re self-employed), consider using a mortgage broker to assess your options.
What about fixed-rate mortgages?
If you’ve got a fixed-rate mortgage, then today’s announcement won’t immediately affect you.
However, once your fixed rate ends, you may find the next deal you get is a lot more expensive.
The average five-year fix is now 4.08%, according to the financial website Moneyfacts – up from 2.75% a year ago. Meanwhile, the average two-year fix is currently 3.95%, while locking in for ten years has an average rate of 4.19%.
“The group who face the biggest shock are those who fixed their mortgage rate in the past few years, when rates were rock bottom, and will be coming off those fixes to far higher interest rates,” said Suter.
“If we assume all of today’s rate rise is passed on in mortgage rates, someone with £200,000 of borrowing who fixed their mortgage two years ago is facing a £2,100 annual increase and those who fixed five years ago are seeing a £1,368 a year increase.”
If your mortgage deal is coming to an end this year, bear in mind that you can typically lock in a new deal three to six months before your current one finishes – so act quickly if this applies to you, as mortgage rates will only be going in one direction following the Bank of England decision.
Before you remortgage, see if you have any spare cash to overpay your mortgage first. Bringing your mortgage down to a lower loan-to-value ratio, say from 75% to 70%, could mean you qualify for a better rate.
Is the rate rise good news for savers?
An interest rate rise should be good news for savers – but if you want to see an immediate uplift you may need to move your money.
Banks and building societies are often slow to pass rate rises onto savers – and even then it may only be a 0.1% or 0.25% uplift, rather than the full 0.5%.
Figures from Moneyfacts reveal that out of the six biggest high-street banks, only one has passed on all five previous rate rises (which total 1.15%) – and some have passed on just 0.09% since December 2021.
Challenger banks and building societies often have higher rates, so the advice is to check your interest rate and if it’s not good enough, transfer your cash to a competitor. To give you an idea of rates, the average easy-access rate is now 0.69% (up from 0.2% in December 2021), while the best easy-access rate is currently 1.56%, from Skipton Building Society.
Fitzpatrick said: “It is also worth noting that you may want to hold off locking into a fixed-rate account right now, as higher rates may be on the way, but we do not know when banks will increase rates or indeed if they will pass the rate increase on to savers.
“If you have savings that you are putting away for the long term, then investing the money could potentially give you better returns than cash savings and help you beat high inflation. However, you should only invest money once you have paid off any debts and put some emergency savings (which should be at least six months’ of income) aside to pay for unexpected costs.”
How high could interest rates go?
While interest rates are at their highest level since December 2008, they are still low by historical standards, with rates above 13% in the early 1990s and at an eye-watering 17% in the late 1970s.
However, analysts say households should brace themselves for further interest rate rises. The consultancy Capital Economics predicts that rates could reach 3% next year. It thinks the Bank of England will stick to its more usual increases of 0.25 percentage points, but says it’s possible another 0.5 percentage point jump could come in either or both of the September and November meetings.
The investment platform Interactive Investor broadly agrees, with Victoria Scholar, head of investment, saying rate rises depend “on the path of inflation and external geopolitical factors such as the war in Ukraine and how this impacts oil and gas prices."
Ruth is passionate about helping people feel more confident about their finances. She was previously editor of Times Money Mentor, and prior to that was deputy Money editor at The Sunday Times.
A multi-award winning journalist, Ruth started her career on a pensions magazine at the FT Group, and has also worked at Money Observer and Money Advice Service.
Outside of work, she is a mum to two young children, a magistrate and an NHS volunteer.
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