IQ Money - Impact of Bank of England Rate Change

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If you have ever spent any time looking into credit cards, loans, mortgages, savings or investments, you will have come across the Bank of England interest rate. Also known as the base rate, it refers to the rate at which the Bank of England lends money to other banks and financial institutions. It acts as a benchmark for interest rates across the wider economy and it influences everything from borrowing costs and savings returns, to the general flow of money. 

This means that when the Bank of England rate changes, a lot of other things change too. Below, IQ Money looks at the impact the Bank of England’s interest rate has on savings, investments, buying and borrowing.

What is the Current Bank of England Interest Rate?

The Bank of England interest rate is currently 5%, but that’s not always the case. Back in March 2020, the rate decreased to an all time low of 0.1% in a bid to help the economy and consumers during the COVID-19 pandemic. It slowly rose, eventually reaching 1% in May 2022 and 2.25% in October 2022, before finally getting to 5.25% in August 2024. Following a slight and recent cut by the Bank of England, the base rate is now 5%. 

Why Does the Bank of England Interest Rate Change?

You’re sure to know that the Bank of England rate is anything but fixed, but do you know why the decision is made to change it? 

• To Stimulate or Slow Economic Growth - As the Bank of England’s interest rate affects the economy, it also affects the cost of borrowing and saving. But, by adjusting the base rate, the Bank of England can either stimulate economic growth or slow it down, depending on the needs of the economy at the time. For example, if the economy is slowing down or in recession, a lower base rate can make borrowing cheaper and more attractive to consumers, which boosts economic activity.
• To Keep Up With Economic Conditions - The Bank of England is always monitoring the economy and various indicators. This includes GDP (gross domestic product) growth, employment rates and the economic conditions around the world. The Bank of England base rate can be changed in response to these conditions, as a way to ensure that the economy remains healthy and stable, and in line with the rest of the world. 
• To Maintain Financial Stability - The Bank of England changes the interest rate to maintain financial stability. If the UK economy is under financial stress or economic uncertainty, adjusting the rate can help to support the economy and ensure that credit, buying and borrowing continues to flow steadily.
• To Boost Employment - Though the Bank of England’s main focus isn’t on supporting employment, changing the base rate can have a positive impact on jobs. By influencing economic growth, the Bank of England can create perfect circumstances for new jobs. Simply, if more people are spending money, businesses need more employees to keep up with the demand. By doing the opposite and slowing the economy, the Bank of England can prevent inflation, but this can lead to job losses.
• To Control Inflation - One of the main goals of the Bank of England is to keep inflation in check. If inflation is too high, it means that prices are rising too quickly. This can throw purchasing power into question and negatively impact consumers. On the other hand, if inflation is too low and prices are still falling, there’s a risk of reduced spending and an unstable economy. By adjusting the base rate, the Bank of England can control all of this, making sure that inflation is exactly where it needs to be.

What Does Changing the Bank of England Interest Rate Do?

Increasing the Bank of England’s rate has an impact on businesses, homeowners and consumers. When the Bank of England raises or lowers its base rate, it has a ripple effect across the economy, influencing everything from loan costs to and savings returns.

It Impacts the Cost of Borrowing - When the Bank of England raises interest rates, borrowing becomes more expensive. This affects mortgages, personal loans, credit cards and business loans. For example, homeowners with variable rate mortgages will likely see their monthly payments increase as rates rise. Similarly, interest rates on loans and credit cards tend to rise alongside base rates, making it more expensive to borrow. The opposite happens when the Bank of England rate decreases, with borrowing becoming cheaper, which encourages spending and investment.

It has a Direct Impact on Savings and Investments - A change in the base rate also affects anyone who is saving or investing money. Higher interest rates are good news for savers, as banks typically offer better returns on savings accounts. This encourages people to save rather than spend. The returns on pension funds can also be affected by a Bank of England rate change, as the interest rate change influences the value of bonds and other assets within pension portfolios.

It Impacts Inflation - One of the main reasons the Bank of England changes interest rates is to control inflation. If inflation is too high, the Bank of England raises the rate to reduce spending and borrowing. If inflation is too low, the opposite happens. When interest rates go up, the cost of borrowing rises, leading to a reduced demand for goods and services. This can ease the pressures of inflation, as businesses are less likely to increase prices. 

It Changes Exchange Rates - Changing the Bank of England Interest rate also changes the value of the pound. When the Bank of England rate increases, the pound tends to strengthen, as higher returns attract foreign investors. A stronger pound makes imports cheaper, but it can make British exports more expensive, which could be challenging for businesses that rely on international trade. A rate cut usually weakens the pound, which benefits exporters by making exported products more competitively priced abroad. But, it also raises the cost of imports, contributing to inflation.

A Bank of England Interest Rate Change Impacts More Than Just People’s Finances

When the Bank of England raises interest rates, it often means that the economy needs a little bit of help. This can impact consumer confidence, with many people seeing a rise in the base rate as a cause for concern. A rate increase can be interpreted as an attempt to slow down spending, and consumers might see this as a sign that inflation is becoming a serious issue.

As borrowing becomes more expensive, consumers may cut back on spending, especially when it comes to expensive items such as cars, homes and holidays. Consumers may become more cautious, saving more and spending less. This can slow economic activity and reduce the ‘fun’ consumers can have with their hard earned cash.

Of course, when the Bank of England lowers interest rates, it can have a more positive impact on consumers. A base rate cut is often a sign that the Bank of England is taking action to encourage the economy to grow. This can boost consumer confidence, as it suggests that the bank is actively working to support economic growth and stability. Lower rates can create a more positive economic outlook, leading to increased optimism among consumers. 

At IQ Money, we know how complex interest rates can be, especially with the Bank of England base rate regularly changing. But, with our experts on hand to help, keeping up to date with financial changes is simple.