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Has the base rate peaked at 5.25% or could it reach 6%?

Rebecca Goodman
Written By:
Rebecca Goodman

The Bank of England (BoE) has raised the base rate to 5.25% and it is now forecast to peak at 6% before averaging at 5.5% over the next three years.

The new base rate is the highest level seen since 2008 and the hike will pile more pressure onto borrowers who are already facing huge price rises amid the cost of living crisis.

But the question everyone is asking now is when will they start falling.

The governor of the BoE, Andrew Bailey, said interest rates won’t begin to fall until there is solid evidence that price rises are slowing and pay is stable, suggesting that the base rate will rise further.

He also told the BBC he needs to see more evidence that inflation, which fell to 7.9% in June but is still way above the Government’s 2% target, is on the way down before interest rates can start falling. The bank is now predicting that inflation won’t reach 2% until the second quarter of 2025.

In the Monetary Policy Committee’s (MPC) statement, it said it will “ensure that base rate is sufficiently restrictive for sufficiently long to return inflation to the 2% target sustainably in the medium term, in line with its remit.”

The BoE’s latest prediction is that rates will peak at just over 6% before they average out at 5.5% over the next three years. It also said inflation is expected to fall “significantly further” to around 5% by the end of the year mainly because of lower energy costs along with a fall in food and core goods price inflation.

The bank also said it expects GDP growth of around 0.2% to continue due to “more resilient household income and retail sales volumes, and most business surveys over recent months”.

Most experts are also predicting at least one, if not two, rate rises this year before they begin to fall.

‘Close to an interest rate peak’

David Morris, chief commercial officer for the Yorkshire Building Society, said, interest rates could be about to peak but as more economic data becomes available, everything could change.

He said: “It appears the key challenge is that the MPC has not seen enough economic data to confirm inflation is truly under control despite ‘starting to see more promising signs’, with wage growth still a concern but positively energy, food and core goods prices are coming down.

“There is a sense we may well be close to an interest rate peak but all that could change as more economic data becomes available.

“For the moment, the market seems to have taken this increase in its stride and the underlying funding costs that underpin mortgage market pricing have remained well below the peaks we saw a month.”

Kevin Brown, savings specialist at Scottish Friendly, echoed this sentiment and said that although we may be approaching the peak of interest rates, households were a long way off feeling financially comfortable again.

He said: “If inflation continues to slow, then the Monetary Policy Committee (MPC) will be hard-pressed to keep pushing rates higher.

“However, while we may be approaching the peak, the struggle is far from over for households. Higher prices are bedded into the economy and are still rising quickly in some areas, such as food and drink. Families’ mortgage payments are going up, often by hundreds of pounds a month, and rents are also rising sharply.”

Interest rate cuts are further away than imagined

David Goebel, associate director of investment strategy at wealth manager Evelyn Partners, pi pointed a few key phrases in the MPC report, including it saying that rates would need to remain “sufficiently restrictive for sufficiently long” to bring inflation down.

He said: “A key reason the Bank will have decided against the larger increase will have been June’s inflation numbers, which finally revealed a downside surprise in headline inflation and, perhaps more importantly, core (excluding volatile food and energy) inflation.

“There was an important addition about rates being “sufficiently restrictive for sufficiently long” for inflation to get back to the Bank’s 2% target. That implies that interest rate cuts are perhaps further away than some had imagined.”

‘More interest rate hikes will make almost no difference to inflation’

Laith Khalaf, head of investment analysis at AJ Bell, explained that the bank’s figures show that further rate rises will not make much different to inflation.

He said: “Its own numbers show that more interest rate hikes will make almost no difference to inflation in the medium term.

“Britain better prepare for economic stagnation, because the latest projections from the Bank of England show almost no growth in the coming two years.

“On the plus side for Rishi Sunak, the Bank thinks CPI will fall to 5% by the end of the year, which means he’s on target to meet his promise to halve inflation. Of course, price rises of 5% for consumers are still deeply uncomfortable, especially on the back of the double digit inflation we have seen over the last year or so.”

Businesses ‘hoping today’s rise is the last they see’

Vicky Pryce, British Chambers of Commerce economic advisory council member, pointed out that small businesses in particular have been put under pressure from rate rises and warned that the UK could be pushed into recession.

She said: “Businesses across the UK will be fervently hoping that today’s rise in interest rates is the last they will see.

“While many firms will have already factored this increase into their plans, it is clear from the recent rise in insolvencies that the economic environment is becoming stacked against smaller firms. They are the ones with less cash reserves in the bank and greater exposure to finance.

“There is now a real danger that the economy could be pushed into recession as it takes 18 months for changes in interest rate rises to filter through. With all the cumulative pressure of past rises yet to come, business will be watching closely for any further indications on the Bank’s plans.”

Sending a signal of concern about inflation

Victoria Scholar, head of investment for interactive investor, said the latest rate rise shows how concerned the bank is about inflation but highlighted the signs that it may start to fall including lower energy prices.

She said: “The magnitude of today’s hike is more about sending a signal about how concerned the central bank is about inflation.

“Clearly there’s a long way to go to bring inflation back down to the 2% target, but recent data points to encouraging signs that we’re finally moving in the right direction with global supply chain bottlenecks fading, wholesale energy prices on the decline, and increased slack in the labour market.

“Uncertainty remains around the outlook for food inflation and strong wage growth, both of which could slow the path for disinflation.”