Interest Rates: What Are They and How Do They Affect Inflation?

Interest rates were hiked to a 13-year high on May 6 as the Bank of England (BoE) struggled to stem rising inflation, which has just climbed to 9 percent and could rise further.

The institution’s Monetary Policy Committee decided to raise the policy rate from 0.75 percent to 1 percent, the fourth consecutive time the panel has voted to raise interest rates.

Governor Andrew Bailey warned before the announcement that the BoE would have to walk a “very fine line” between cooling inflation and triggering a recession.

Consumer confidence fell last month and retail sales came in lower than expected on rising energy bills, food prices and fuel costs.

Here’s a quick and easy guide to how the latest interest rate change affects you.

What is interest?

An interest rate is a measure of what the cost of borrowing is, or the return of saving.

When you borrow money, typically from a bank, the interest rate on that money is the amount you are charged for borrowing it.

A fee is charged on the total amount of the loan and displayed as a percentage of the total amount.

Living expenses: How to get help

The cost of living crisis has gripped every corner of the UK, marginalizing families with soaring food and fuel prices.

  • The Independent asked experts to explain small ways you can stretch your money, including managing debt and getting items for free.
  • If you need to access a food bank, find your local authority website via and then use the local authority website to find the nearest centre. The Trussell Trust, which operates many food banks, has a similar tool.
  • Citizens Advice offers free help to people in need. The organization can help you find grants or benefits, or offer advice on rent, debt, and budgeting.
  • If you suffer from stress and isolation or have trouble coping with it, The Samaritans offers support. You can speak to someone free of charge and confidentially on 116 123 (UK and ROI), email or visit the Samaritans website for details of your nearest branch.

Higher percentages mean you’re paying the lender more money to borrow the money.

When you save money in a bank account, the interest rate on that money is the amount that accrues to you on top of your savings. Banks pay you a percentage of your total savings, usually at the end of the year.

How does interest rate affect inflation?

Low interest rates are used to discourage people from hoarding their money in savings accounts. High interest rates encourage saving because people get a better return on the money they put away.

This, in turn, affects the price of goods.

When interest rates are low, people may spend more, which can cause retailers to increase the price of goods.

When interest rates are high, demand could fall as people put more money into their savings pots. This should theoretically lower the prices of goods and services.

However, rising prices are not a direct consequence of changes in interest rates. Other things, including the supply of money and the underlying costs, affect prices and cause inflation.

Interest rates can only help control inflation.

How do interest rates affect mortgage rates?

Changes in the BoE base rate, which is the rate at which banks borrow from the bank, affect the interest rates that high street banks then charge their mortgagees.

How does this affect me?

The changes in interest rates will affect everyone who has savings and everyone who borrows money from the banks, for example in the form of a mortgage.

It will also have wider implications for the economy. By raising interest rates, the BoE hopes to dampen rising inflation and help with the cost-of-living crisis.

Despite this, inflation is expected to continue to rise in the near future – with a tip of over ten percent. Interest Rates: What Are They and How Do They Affect Inflation?

Bobby Allyn

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