The Bank of England has just announced it is raising interest rates to its highest levels since 2009. But what does that actually mean?
This month’s increase sounds pretty marginal – from 1% to 1.25% – but this is actually significant when it comes to understanding what’s going on with the UK amid the global energy chaos and the 40-year-high inflation rate.
Here’s how this change will impact the cost of living crisis and your day-to-day life.
What are interest rates?
An interest rate is the amount it costs to borrow money.
These rates in the UK used to be much higher, but the financial crash meant they were slashed to incredibly low levels to reduce the fall-out.
This number has stayed low for the last 13 years, and only now has it crept up to 2009 levels.
As inflation is the rate at which prices rise, interest rates are used to balance it out and reduce soaring prices.
Essentially, if it costs more to borrow money, people are less likely to lend it, which should steady out the sudden changes in the economy.
So why is June’s change in interest rates significant?
This is the fifth consecutive monthly rise from the Bank of England since December.
The rates are now at their highest rates since 2009 in the aftermath of the financial crash.
In fact, out of a committee of nine members, three wanted an even larger increase in interest rates, pushing for them to go to 1.5%.
It is not a total surprise that the Bank has increased its interest rates.
In May, the ONS confirmed that inflation rates had reached a 40-year-high at 9%, so it makes sense that the Bank wants to deter lending for now.
The Bank of England also predicted that the economy will shrink by 0.3% in the second quarter of 2022 (April to June) while inflation is set to soar above 11% by autumn (five times the Bank’s inflation target of 2%).
It has previously indicated that it then expects the economy to grow between July and September, narrowly avoiding a recession (this is when the economy shrinks for two consecutive quarters).
The increase in interest rates followed a much larger increase in interest in the US of 0.75% to counter soaring inflation levels on the other side of the Atlantic.
Who will be most affected by the change?
Finance experts believe those on variable or tracker mortgage rates would be most affected by this change.
According to the BBC, the British Chambers of Commerce also raised the alarm about businesses struggling to recover after the Covid lockdowns, due to the extra cost pressures and labour shortages.
More still needs to be done though, according to some.
“What the economy nows needs is a sense that inflation has peaked and is starting to fall back,” the chief economist of the Institute of Directors Kitty Ussher said, as she said this move from the Bank showed action was being taken to counter inflation.
How might this actually impact your life?
Homeowners with a typical tracker mortgage will now have to pay approximately £25 more per month.
For anyone on standard variable rate mortgages, there will be a £16 increase.
It may not sound like very much, but looking back at when the Bank first announced these incremental increases in interest, tracker mortgage customers now pay around £115 more per month in total, while variable mortgage holders pay about £73 more.
For the three-quarters of mortgage-holders who have a fixed-rate deal, there won’t be an immediate change.
And although the Bank predicts this means we will be able dodge a recession in the autumn, the secondary increase in energy prices arriving later in the year mean living costs will go even higher in October – and so the economy could shrink again.