Recession on the horizon as BoE hikes rates to 1.75%

The Bank of England Monetary Policy Committee has raised rates 0.5% to 1.75%. It’s the biggest one-month rise since 1995. It’s the highest rate for almost14 years.

The Bank said it expects the UK to enter a recession in Q4 of this year. Inflation is expected to hit 13% later this year and remain elevated throughout 2023. What the interest rate rise means for your money.

Helen Morrissey, senior pensions and retirement analyst at Hargreaves Lansdown: “We need to brace for tough times ahead as the Bank of England predicts a recession on the horizon at a time when people are already under severe financial pressure from soaring bills. Interest rates have increased for the sixth successive time as the Bank of England battles to tame soaring inflation. This month’s increase is the largest in over a quarter of a century .

It’s a global phenomenon with the BoE following the Fed and ECB in going above and beyond 0.25bp increases as inflation proves incredibly stubborn. The Bank of England now expects inflation to peak at 13% in the second quarter of 2022 and that it will remain elevated through much of 2023. This is largely down to a near doubling of the wholesale gas price since May which feeds through to higher prices for consumers.

Recession predictions pile on the pressure even further with the potential for job losses causing further concern for people already struggling to pay their bills.

The interest rate increase has big impacts for our finances. Mortgage holders who are yet to fix their rates as well as those trying to repay other debt who will see their repayments climb. However, savers and people coming up to retirement may be able to find some slightly more positive news among the gloom.

Mortgages: What it means for you:

People on variable rate mortgages need to tighten their belts another notch with today’s increase adding to their costs. Someone with a £300,000, 25-year, repayment mortgage on the average SVR could see their monthly payments go up by over £88 a month- that’s a real chunk of change to find when money is already tight.

Three quarters of mortgage holders are protected by a fixed rate deal, so the rises will take a while to filter through. However, when their mortgage expires, they’re in for a nasty shock. Average two- and five-year rates were already rising at a record pace, according to Moneyfacts, and this will add more fuel to the fire.

According to Moneyfacts, the current average two-year fixed rate deal in early July was 3.74%, up 1.4 percentage points from November and the average five-year fixed rate mortgage was 3.89%, up 1.25 percentage points. Both had risen more than the 1.15 percentage point bump in the base rate.  Not all mortgages are rising as quickly as the Bank of England base rate, because the big banks are still sitting on so much lockdown savings that they can afford to fund cheaper deals, so it’s well worth shopping around.

Savings: What it means for you

Rising rates should be good news for savers, but if you want to cash in on rising rates, you need to work hard. Savings rates have been creeping up since December, but some corners of the market have fared better than others. One stand-out performer is the one-year fixed rate bond. According to Moneyfacts, between the start of the year and July, the average one-year fixed rate bond has more than doubled from 0.8% to 1.75%, as smaller and newer banks justled for position.

It means that once you have an emergency savings safety net of 3-6 months’ worth of essential expenses in an easy access account, it’s worth considering tying some of your savings up for a year, and cash in on competition between the challenger banks.

As always, if you leave your saving in a high street bank, you will likely lag behind those paying the most competitive rates.

Annuities: What it means for you: 

Annuity incomes have surged recently with a 65-year-old with a £100,000 pension able to get an income of £6,225 per year. This compares to just under £5,000 this time last year.

Interest rates are just one factor contributing to annuity incomes, but today’s increase could fuel a further boost over the coming months.

Annuities fell out of favour with the advent of pension flexibilities with many people seeing them as inflexible and offering poor value. These increases could see more people consider including them as part of their retirement income strategy. In previous work done by HL more than half of people who envisage buying an annuity would do so if their income reached £6,500 so we are reaching an important inflection point.

Once an annuity is bought it cannot be unwound and this puts many people off especially if they think rates could increase further in future. However, it is important to say there is no obligation to annuitise your entire pot all at once. You can annuitise in slices throughout your retirement enabling you to cover your basic needs with a guaranteed income from the annuity while leaving the rest invested. You can then benefit from higher annuity rates as you age.

What next?

The economic headwinds are increasingly gloomy with inflation predicted to hit 13% by the end of the year and remain high throughout 2023. This is much higher than the Bank predicted even in June and shows this is a fast-moving situation that is getting increasingly serious. Added to this are warnings of a recession from Q4 which could last a year or more bringing with it the potential for job losses. Households face difficult and uncertain times ahead.