Financial markets are pricing in an interest rate rise in six months’ time. We explain why and run through how higher rates will impact your finances.
There is a growing expectation that the Bank of England’s Monetary Policy Committee (MPC) will raise the base rate in coming months.
Analysis conducted by asset management firm Schroders says rising inflation has led to a shift in expectations. Based on interest swap rates – which can be used to gauge industry expectations – it says the market now expects the base rate to rise to 0.5 per cent in January 2018.
One month ago the expectation had been that rates would remain at their current level of 0.25 per cent until at least the summer of 2019.
Markets also now expect base rate to rise to 0.75 per cent in April 2019, then again to 1 per cent by October 2020.
At the last Monetary Policy Committee (MPC) meeting, three of the eight members voted to increase the base rate from its current level. However, analysts believe that while inflation is rising, the impact of Brexit and the weakened UK government may make policymakers hold off on any interest rate rise.
The MPC is responsible for ensuring inflation remains close to the government’s 2 per cent target, but in recent months this has rocketed. In May inflation was 2.9 per cent - well above the official target.
The next base rate announcement will take place on 3 August 2017.
Azad Zangana, senior European economist and strategist at Schroders, says: 'The Bank of England has to decide whether the inflation the UK is experiencing at present is temporary or permanent.
'For most on the committee, the rise in inflation caused by the depreciation in sterling should be a temporary phenomenon. However, the more hawkish minority of members see a risk that wages could accelerate in response, causing even more inflation in the future.'
How would a base rate rise affect my finances?
Investors in bonds
Bond prices tend to suffer when interest rates rise. The fixed payments made by companies or the government are less attractive when increasingly higher rates of interest can be earned elsewhere.
Mortgage deals linked to the base rate would rise immediately while those on their lender’s standard variable rate (SVR) are also likely to suffer. SVRs are not specifically linked to the base rate but generally move in line with it. Those on fixed rate deals will be unaffected.
Savings rates would be expected to increase following a base rate rise, although other market conditions also play a part.
- This article was originally written by our sister website Moneywise.