When interest rates will fall – and what it means for your mortgage

Following last month’s fall in mortgage rates, some 2.2 million people with fixed mortgage deals ending over the next year-and-a-half may be disappointed at the Bank of England’s decision to hold at 5pc today.

Inflation is finally under control, having stuck at 2.2pc in August, and the Federal Reserve issued a 0.5pc rate cut just last night – both of which prompted the question over whether the Bank’s Monetary Policy Committee might cut rates today.

However, the MPC voted 8-1 in favour of holding rates where they are, sending a “clear message” that it would not move too quickly to cut borrowing costs.

Britain’s official interest rate, set by the Bank of England, was reduced to 5pc in August 2024. Before that, it had been at 5.25pc since August 2023, after a steady rise from its record low of just 0.1pc in late 2021 as the Bank attempted to curtail rising inflation.

When the Bank Rate is high, it has a knock-on effect on mortgage and savings rates. The average two-year fixed mortgage rate is currently 5.47pc; it was 2.34pc in December 2021. The top one-year fixed savings rate is currently around 5pc; in 2021, you’d have been lucky to earn 2pc interest on your savings.

Falling interest rates, therefore, are good news for borrowers and bad news for savers. Hundreds of thousands of residential fixed-rate mortgage deals are still due to end in 2024, according to trade body UK Finance, the majority of which it expects are five-year deals.

This means that most of those with mortgage deals ending this year will see a significant increase in their monthly mortgage repayments.

Research from comparison site Dashly found that the average borrower with a mortgage deal ending between August 2023 and July 2024 would see a £288 jump in monthly repayments.

The Bank of England meets eight times a year to decide whether it will raise, lower or decline to change the base interest rate.

Why did interest rates rise so much in the first place?

The Bank of England uses the Bank Rate as a tool to nudge the economy in a certain direction. If inflation is too high, it can raise the Bank Rate, which sends ripples through the economy.

Inflation is when the cost of goods and services goes up, and can be caused either by issues with supply chains or increases in demand – when people go out and spend more money, prices go up.

Between early 2021 and October 2022, the UK’s inflation rate rose from under 1pc to 11.1pc, its highest level since records began.

It was caused by several key factors including Russia’s invasion of Ukraine in 2022, which saw energy and food become more expensive due to disruptions in production and scarcity, and a surge in demand for energy following the coronavirus pandemic. The pandemic also led to a shortage of workers, which exacerbated supply issues.

The Bank of England decided to act, putting up interest rates 11 times in a row between December 2021 and August 2023 to a peak of 5.25pc.

When interest rates go up, people earn more money on their savings, which encourages them to put more money away. This means they spend less, which can cause inflation to either rise more slowly or even fall.

Additionally, when interest rates rise, borrowing becomes more expensive. If people borrow less, they also spend less, which also has a negative effect on inflation.

Plus, when people spend more money on borrowing interest – especially mortgage interest, which jumped significantly when the Bank of England started increasing interest rates – they have less disposable income to spend elsewhere in the economy, which also hampers rising inflation.

When the Bank of England began to hike interest rates, some analysts were critical, with the opinion that because the inflation that the UK was suffering was predominantly supply-led, policies designed to impact demand would therefore be ineffective.

However, it’s difficult to argue with the results – since the UK’s inflation rate peaked in October 2022, it fell to 2pc in May 2024. It’s since risen slightly to 2.2pc in July and August.

Will interest rates fall quickly?

The Bank of England has only issued one rate cut since inflation has been around the 2pc mark. While it chose to hold rates at 5pc today, markets are pricing in at least one more rate cut before the end of the year – most likely when the MPC next meets on November 7. It’s thought rates will fall to 4.75pc.

Alice Haine, personal finance analyst at Bestinvest, explains that further rate cuts will still depend on a lot of variables going the right way.

“CPI inflation may have held firm at 2.2pc – just above the Bank of England’s target of 2pc – but an uptick in core and services inflation in the 12 months to August, a reflection of underlying price pressures, is likely to have been concerning for the central bank, particularly after rolling out such as aggressive tightening strategy to keep price rises in check.

“Flat economic growth in June and July, following a strong start to the year, along with easing wage growth and falling vacancy rates are likely to have complicated the decision for the central bank – as it signals that high borrowing costs are having a dampening effect on the economy. Prolonging this era of high interest rates by keeping rates on pause risks crimping the economy even further.

“With inflation expected to edge up again in the final quarter, driven by a 10pc rise in energy bills from October 1, all eyes will be pinned on the BoE’s next meeting in November to see if a second rate cut materialises then, or whether consumers will have to sweat it out for even longer.”

How will mortgage rates change if interest rates fall?

For mortgage borrowers, fixed rates have been steadily falling for a number of weeks, but today’s Bank Rate hold could mean a longer wait for cheaper deals – but they will come eventually.

Nicholas Mendes of mortgage broker John Charcol explained: “Today’s announcement does not change the clear, medium-term downward trend in mortgage rates. While we can expect a temporary lull in the competitive rate cuts seen in recent weeks, this will be just that – a lull, not a reversal in direction.”

Indeed, experts suggest the Bank could cut rates more quickly in 2025.

In fact, we think over the next 6-9 months the Bank will cut rates a little slower than market pricing.

Paul Dales, chief UK economist at Capital Economics, said: “We’re expecting one more 25bps cut this year (at the next meeting in November) rather than two cuts.

“In the second half of 2025, though, we think a more marked easing in inflation will prompt the Bank to speed up and eventually cut rates to 3pc.”