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The UK’s base rate now stands at 1.25%; the 5th rise by the Bank of England (BoE) since late 2021. This is now the highest rate in 13 years and has important repercussions for households across the country. Below, our financial planners at Cedar House explain why the base rate has risen again, what might happen later in 2022-23 and some implications for your financial plan. We hope this is helpful to you. If you want to discuss your own financial plan with us, please contact our team for more information or to access personalised financial advice:
020 8366 4400 or enquiries@cedarhfs.co.uk
Why is the base rate still rising?
Many people are unsettled by the repeated BoE base rate increases. Yet it is important to note that this has happened before. In 2006-7, for instance, the base rate went up five times. Since 2009, however, the base rate has been fairly stable (until recently).
The main driver behind rising interest rates is increasing energy costs. As the prices of oil and gas go up, this pushes up UK inflation (as measured by the Consumer Price Index, or CPI). The Bank of England has a target of 2% inflation each year, but the figure presently stands at 9% – with forecasts that it could go as high as 11% by the autumn.
Unfortunately, a rise in energy prices has a knock-on effect on the rest of the economy, since all sectors rely on energy to a great extent. Supermarkets need to pay for lorries to transport their goods to the shelves, for instance, and naturally, a rise in oil prices means it costs more to fill up your car. To try and control inflation, the BoE can push interest rates up to encourage people to save more (to get a better rate from their regular account).
Where will interest rates go in 2022?
However, this does not always work. As evidenced since November 2021, repeated base rate increases have not stopped inflation from reaching its highest level since the 1980s. As the Governor of the BoE has stated, this may be largely due to rising global wholesale prices for oil and food (driven partly by Russia’s invasion of Ukraine).
However, the BoE will be keen to be seen as trying to combat inflation. So, it is possible that further interest rate rises may come later in the year. However, the Bank will be careful not to push the brakes too hard. Doing so could lead to a crisis in the housing market if banks push mortgages up so far that homeowners can no longer afford them. Pushing too hard could also lead to deflation (falling overall prices), which can lead to rising unemployment and pay reductions. However, this outcome – not seen since the 1960s – seems very unlikely.
Implications for your financial plan
The base rate matters for households for at least two reasons.
Firstly, it has an indirect effect on public spending by increasing the cost of borrowing for the UK government. The higher the cost, the more pressure to cut back on public service spending (e.g. state benefits). Secondly, and more directly, a higher base rate typically means that high street banks put their own interest rates up.
This is often good news for savers, but unwelcome news for homeowners who are likely to see their monthly mortgage payments increase (e.g. those on a variable rate). We have witnessed this since late 2021, with banks pulling their cheapest deals off the market. January 2022 alone saw 500 deals withdrawn by lenders. This has pushed up the average rate charged on variable mortgages. Lenders are, understandably, nervous about house prices and are becoming more reluctant to offer property loans.
Given this situation, and the pace of deal movement in the market, it can help to seek special help from a financial adviser (who also assists with mortgages, as we do at Cedar House). It may be worth looking into a fixed-rate deal, if possible and suitable, to help protect yourself from further potential rises in the base rate.
Unfortunately, many banks are also not passing on the full benefits of a rate rise to customers in the form of higher interest rates on regular savings accounts. Even if they did, however, the rate of inflation is so high (9%) that even a 2% interest rate on an easy-access account (not seen for years) would still leave savers worse-off, in real terms. In light of this, we still suggest keeping a cash emergency fund holding 3-6 months’ worth of living costs.
However, be careful not to hold too much in cash – which is a sure way to lose wealth value to inflation. Instead, consider consulting a financial planner about how you can invest other income and cash into assets which can produce a higher return (e.g. drip-feeding into the stock market). A professional can help you construct a well-diversified portfolio which reflects your goals, risk appetite and investment horizon.
Conclusion
Interested in discussing your financial plan with an experienced financial adviser? Get in touch today to discuss your financial plan with a member of our team here at Cedar House via a free, no-commitment consultation:
020 8366 4400 or enquiries@cedarhfs.co.uk