Why the Bank of England hiked interest rates – and what it means for you

On Thursday, the Bank of England increased interest rates for the first time in more than three years.

The Bank’s policymakers said the move was justified because inflation was rising in the UK economy and would continue to increase because of the ongoing war in Iran.

It added that borrowing costs were likely to rise further if there was no resolution in that conflict.

This is the Press Association’s analysis of what the Bank’s decision means and what could come next.

What happened to interest rates?

Interest rates were hiked 25 basis points from 3.75 per cent to 4 per cent.

The Bank’s entire Monetary Policy Committee (MPC), which consists of nine members, voted for a hike – although a single member, Catherine Mann, preferred a larger increase of 50 basis points.

What does it mean?

The central bank base rate helps to dictate how costly it is to take out a mortgage or a loan.

Borrowing rates are usually raised in an effort to lower inflation, because higher interest rates can weigh on demand and therefore lead firms to cap price increases.

Having a higher base will mean that homeowners on tracker mortgage rates will have an increase in their monthly payments.

Meanwhile, those on fixed-rate mortgages will not immediately suffer the impact of the hike on their loan, but it may mean they will be hit with increased payments once their current deal expires.

The interest rates banks offer their customers for their savings accounts are also connected to the Bank of England’s base rate, so some customers could see that rate rise in the near future.

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What is happening with inflation in the UK?

Jacking up interest rates is the central bank’s primary way to curb inflation – the measure of how fast overall prices increase over time.

The Bank of England’s target is for monetary policy to try to maintain inflation at 2 per cent, which is the desired rate set for it by the Government.

Inflation is currently running above that level.

The latest official figures showed that Consumer Price Index (CPI) inflation rose to 3.5 per cent in September, the highest level in 11 months.

The war in the Middle East has been a huge driving force, because disruption to supplies of oil and gas has led prices to skyrocket, consequently supporting rising household energy and fuel prices.

What is most likely to happen to inflation in the future?

The Bank of England on Thursday said it currently expects inflation to accelerate in the coming months before reaching its peak at “around 5 per cent” in the second quarter of 2027.

This is in part because Ofgem’s household energy price cap is expected to jump by almost 25 per cent in January, bringing average annual bills to £2,150.

However, it is also because of the impact higher energy prices have on other parts of companies’ supply chains, which could be passed on to consumers through higher prices charged in shops.

So far, food inflation in the UK has been relatively steady, but it is expected to accelerate and rise as high as 4.8 per cent next year, meaning households will be footing even higher food bills.

Will interest rates have to rise?

The Bank’s governor Andrew Bailey was clear in the messaging of Thursday’s decision that interest rates will have to increase even more if the war in Iran is not resolved.

“Today’s increase shouldn’t be seen as the first in an inevitable long sequence of hikes,” he said.

“But, unless the conflict in the Middle East is resolved, neither does it seem likely to be the last increase.”

This means that borrowers are likely to be facing a bigger squeeze at a time when the cost of living is rising.

Mr Bailey also said that even if oil and gas prices were to drop, there was “already a significant amount of inflation pressure in the pipeline” – referring to the projected increase to Ofgem’s energy price cap from January.

What has the Government said on rates?

Chancellor John Healey said: “The Iran conflict is reaching deep into the pockets of families and businesses here at home.”

He said he had “acted to give some breathing space to families and businesses” in his autumn Budget statement last month.

“Twenty million households will get a £100 energy payment, I extended the tax cut on electricity bills and froze fuel duty,” he said.

The measures in the Budget are forecast to reduce the inflation rate by around 0.25 per cent in the second quarter of next year.