What is the Bank of England base rate and how does it affect you?

Founded in 1694, the Bank of England functions as the UK's central bank. As a public entity answerable to Parliament, it is tasked with issuing banknotes as official currency and works towards upholding economic stability and managing the cost of living within the nation.

What is the Bank of England base rate?

The Monetary Policy Committee (MPC) determines the Bank of England base rate to influence inflation in the UK economy. This rate, also known as the 'base rate' or 'interest rate,' is a central topic in discussions about fluctuating interest rates.

On Thursday, August 3, 2023, the MPC set the current Bank of England base rate at 5.25%. This rate undergoes review approximately every 6 weeks, leading to around 8 changes per year. The MPC meets a few days before announcing the outcome of each meeting.

The MPC assesses the Bank of England base rate in relation to inflation to decide whether it should remain stable, increase, or potentially decrease. The forthcoming MPC meeting's decision will depend on market conditions such as inflation rates and economic stability, making it difficult to predict the exact adjustment to the base rate.

How is the Bank of England base rate set?

The Monetary Policy Committee will analyze information collected from banks, building societies, credit unions, insurers, and mortgage lenders. Taking into consideration financial stability, committee members will cast their votes on the necessary adjustments, with these votes shaping the ultimate decision on establishing the base rate.

How does the Bank of England base rate affect inflation?

The Monetary Policy Committee (MPC) aims to achieve the Bank of England's goal of maintaining inflation at 2% by adjusting the base rate to stimulate or dampen demand in the economy. Lowering demand can decelerate economic growth and decrease inflation rates, whereas raising demand has the opposite effect. Despite this apparent simplicity, fostering growth is also crucial, and the BoE must carefully adjust the base rate at the right time to have a positive impact on the economy.

How does the Bank of England base rate affect mortgages?

Although mortgage interest rates are set by lenders, they are influenced by the base rate set by the Bank of England due to how the base rate affects other types of lending. Most lenders borrow from financial institutions at rates known as swap rates where the lender and the institution will swap a fixed rate for a variable rate. Swap rates change in line with the base rate charged by the Bank of England so when your lender has to pay more or less for borrowing the money it lends to you in the form of a mortgage, it will inevitably affect what it charges you for doing so.

When the BoE base rate rises steadily, lenders will usually increase rates to reflect the added cost to them ensuring they maintain their profit margins but it is also possible for lenders to withdraw lending if rates rise suddenly.

How the BoE base rate affects fixed rate mortgages

Fixed-rate mortgages charge an interest rate that is fixed for the duration of the mortgage deal which is usually between 2 and 10 years. During this period, any change to the base rate will not affect the interest rate you pay therefore your monthly payment will not change.

Once your fixed-rate period ends and you seek a new mortgage deal, you will find that new deals reflect the BoE base rate at the time and may change your monthly mortgage payment. If you choose not to switch mortgage deals, your mortgage will revert to the lender's standard variable rate (SVR) and the base rate will usually affect a lender's SVR. What this means is that a change to the base rate will eventually transpire in the interest you are charged for your mortgage loan.

How the BoE base rate affects tracker mortgages

A tracker mortgage is usually directly affected by any change to the BoE base as the interest rate tracks this. Almost all tracker mortgages track the BoE base rate - some track the LIBOR rate which is affected by the BoE base rate too. Tracker mortgage interest rates work by charging a fixed amount of interest plus the rate that is being tracked. This means that any change to the base rate will be reflected in your monthly mortgage payments immediately.

So, if the BoE increases the base rate, the interest you pay on your mortgage will normally increase too and if it falls, your mortgage interest rate will likely fall too.

How does the Bank of England base rate affect savings rates?

The base rate affects what is paid to financial organisations such as banks and building societies for the financial products that they hold. If the base rate changes then this affects what the bank passes on to its savers - a fall in the base rate may mean that banks offer savings customers less interest on their deposits while an increase will usually prompt them to increase the interest paid to savers, encouraging them to save more.

Increases to the base rate of interest may not be experienced immediately when it comes to the interest that you are paid on savings but they generally materialise due to the banks' need to remain competitive so you continue to invest your savings with them.

Between lending money and holding money for customers, banks need to make a profit and the profit margins will be directly affected by the base rate.

How does the Bank of England base rate affect credit cards, overdrafts and loans?

If you have a credit card or loan with an agreed interest rate, a base rate change is unlikely to affect this until your agreement period ends. You may experience a change to the rate of interest charged on any credit balance once your agreement period ends or if you apply for new credit. Credit providers are likely to pass on any change in the BoE base rate to borrowers but you should still search the market for the best deals to compare interest rates and other terms of credit before applying for a new credit card or loan.