On Thursday, August 2, 2018, the Bank of England (BoE) announced they would raise the base interest rate from 0.5% to 0.75%.
Why have they raised interest rates?
The BoE thinks that over the next few years the amount of goods and services that the UK can produce will grow more slowly. But demand for these goods and services will continue to grow strongly. Left unchecked, this imbalance in supply and demand will push up prices – i.e. inflation.
The BoE’s job is to control inflation, primarily by bringing demand back in line with supply. And it does this by raising interest rates: making borrowing more expensive, and saving more attractive.
Why raise rates now?
The BoE has been saying that rates need to rise since last summer. And it has already raised rates once, in November 2017, when rates went from 0.25% (a historic low) to 0.5%.
Despite lots of rumours, rates were not increased by the Monetary Policy Committee (MPC) at their meeting in May. That’s because new data in early 2018 suggested that demand wasn’t growing as strongly as expected, possibly making further rises unnecessary. But this slowdown now looks temporary, probably caused by the “Beast from the East” cold snap in March (which reduced household spending).
The MPC had been hinting for a few months that rates would go up in August, and today confirmed an increase of 0.25% to bring interest rates up to 0.75%.
Just to give some perspective, this is only the second 0.25% increase in 10 years. In the first few years at Zopa (from 2005 up to 2008), we saw higher interest rates in general, and more volatility. For example, November 2006 – August 2007 saw a jump of 0.75% to 5.75%, compared to the increase of 0.25% in November 2017 – August 2018 to 0.75%.
But what could this change mean for you?
For a lot of people, there won’t be an instant consequence. Unless, of course, you’re on a tracker mortgage. In that case, your monthly mortgage repayments will go up, as they follow the movements of the BoE base rate.
But in many ways any changes will take a little while to kick in.
If you’ve already got a fixed-rate personal loan, fixed-rate mortgage, or a deposit account, its rate won’t change immediately (by definition). But if you come to the end of your term and take out a new product, the rate on that might be higher than your existing one.
But even rates on these new products won’t necessarily change in response to today’s rate rise.
That’s because interest rates on fixed-rate products are not set based on what rates are right now, but on what they are likely to be in the future (for the whole term of the loan or deposit).
So today’s rate rise, which has been expected for some time, should already be reflected across rates for new fixed-term loans and deposits, as the provider would have anticipated the move and priced accordingly.
What could happen for investors at Zopa?
Competitor pricing is one of several factors we look into when setting our loan prices, alongside the BoE base rate. We track the market to stay competitive, but not lead a race to the bottom. We still want to attract the most creditworthy borrowers to Zopa.
Typically, a rate rise leads to higher prices for borrowers across all loan types. Often, but not always, it also translates into higher savings rates: however if history is anything to go by, financial organisations don’t always pass rate rises on to savers. According to the BBC, since the last rate rise only 50% of savings accounts actually saw an increase in rate: and even that was only 0.2% on average, and not the full 0.25%.
We’ll be monitoring all of this closely, as returns for investors are dependent on loan pricing. If there is any change, the benefit would be passed on to you.
And finally, there’s the longer-term impact
If the BoE’s rate change has the desired effect, it will help stop inflation from getting out of control. Which in the long run is good for everyone – even if (like me) your mortgage payments go up…
Greg Stevens is our resident Regulatory Analyst here at Zopa.
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