The Bank of England base rate isn’t as complicated as it sounds – we’ve got you covered! We’ll go through what it is and how it affects your money.
Heads up, it’s officially known as the ‘bank rate’, and it’s set by the Bank of England – who are responsible for managing money in England, such as printing new bank notes, and keeping the country financially stable.
What’s the current Bank of England base rate?
The current Bank of England base rate is currently 5%.
It was much lower at 0.10% at the beginning of the Coronavirus pandemic, and has been as high as 17% in 1979!
But what does this rate actually mean..?
What is the Bank of England base rate?
The base rate is an interest rate, just like you’d get if you went into your bank and asked for a loan, or opened a savings account – it’s a cost of borrowing money, or a reward for saving your money with them.
However, the Bank of England interest rate is slightly different to what we’d get from a high street bank…
Believe it or not, the banks borrow money too, from the Bank of England, and they pay interest on this, which is the Bank of England base rate. They also keep some of their money with the Bank of England, just like your savings with the bank, and in return they get interest, which is the Bank of England base rate too.
This can affect you when you borrow or save money with your bank. As they’re either borrowing money or storing their money with the Bank of England, to offer you things like loans and savings accounts, and they’ll be paying the base rate as interest. More on this below.
So why does the bank rate actually exist? Well, it's purpose of the base rate is to keep inflation ‘low and stable’...
Why is this important? Inflation is a fancy word for the cost of living increasing – that’s the cost of everything you buy regularly such as food, clothes, energy, petrol etc.
For example, in the year 2002 a pint of milk cost 36p, and now it cost 66p – that’s nearly double the price! The price increase is inflation.
It’s measured as a percentage, and represents the average of these costs increasing each year. The Bank of England has a target of keeping inflation at 2% increase per year, in order to keep the country stable.
Inflation can have a huge impact on you and your money, if inflation rises a lot over a short period of time, the cost of living can get very expensive, very quickly – particularly as wages don’t tend to rise in line with them. So you’ll have less money to spend overall, and your savings will quickly be devalued (as your money has less ability to buy things).
This makes people spend less because things become expensive, and when people start spending less, it begins to harm the whole economy, and businesses begin to struggle with lower sales and potentially could go out of business, causing unemployment, and even less spending, and a spiral begins causing a devastating impact on the country as a whole. Sorry to be a downer!
To stop this from happening, the Bank of England has to control inflation, and they do this with the base rate. when it’s lower, the cost of borrowing money is lower and people begin to borrow money to buy things, have more spare cash to spend, and save less as they’re not getting much interest in return.
When the base rate is higher, borrowing money becomes more expensive, and people tend to borrow less, have less money to spend, but also get more interest on their savings, so tend to save more.
Let’s get into that a bit more.
How the base rate affects you
When banks borrow money from the Bank of England, they use this money to give their customers things like loans and mortgages – with a nice profit on top for them of course.
Let's assume the base rate is 0.50%, and let's take mortgages as an example.
A bank's standard mortgage might have an interest rate of 3.50%, with the bank borrowing money from the Bank of England at 0.50%. If the Bank of England put the rate up by 0.25%, from 0.50% to 0.75%, your mortgage would also often go up by the same rate, so an increase of 0.25% too, making your mortgage interest rate now 3.75% – quite a bit more expensive, and could be £100s extra per month.
Note: you can normally get a fixed-rate mortgage deal, where the interest rate is fixed for a set period of time, normally 2 or 5 years, so it’s not impacted by increases in the base rate, and it’s often a good thing to do. You should speak to a mortgage advisor for the right thing to do for you, and to find you the best deal.
It also affects your savings too if you keep them with a bank. Your bank will be keeping some of their money with the Bank of England and earning interest at the base rate set.
When the base rate increases, the banks are earning more money from the increase, and often they’ll pass this onto their customers to keep them happy.
Let’s say the base rate increases to 0.75% from 0.50% (so a 0.25% increase), you might see the interest rate on your savings account increase by the difference, 0.25% too. Although it’s not guaranteed and up to the banks themselves to pass on any increases. (If you have a fixed-rate savings account, you won’t get this increase).
How is the base rate decided?
The Bank of England has a Monetary Policy Committee (MPC), who sets the bank rate. It’s a group of 9 people who know a thing or two about economics, such as the Governor and the deputies of the Bank of England. And they’ll vote roughly every 6 weeks on what the base rate should be after considering what’s happening with inflation, and if there are new Government policies.
Not as complicated as it sounds right? So the Bank of England base rate (bank rate), is simply the rate at which banks can borrow money from the Bank of England, and it’s also the interest rate banks can get if they keep their money with the Bank of England.
It’s used to control inflation, which is the cost of living, with the aim of keeping everyone’s money and ultimately the country stable, which ultimately helps you plan better for the future.