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Interest rate rises: what you need to know

interest rates A woman walks past houses ‘To Let’ in a residential street in London, Britain, September 27, 2022. REUTERS/Hannah McKay
UK mortgage interest rates surge past 6% to highest level for 14 years. Photo: Hannah McKay/Reuters

The financial turmoil in the UK has led to soaring interest rates, prompting many lenders to withdraw products and leaving homeowners fearing rising costs.

More than 40% of all mortgage products were pulled after chancellor Kwasi Kwarteng's mini-budget last month triggered a slump in the pound and fears of further interest rate hikes.

Read more: Interest rate rises only way to tame UK inflation, warns Bank of England deputy governor

An average of at least 100,000 people a month are coming to the end of their current mortgage, and face a significant rise in their monthly repayments.

10 things to know about interest rates, mortgages and market turmoil

What is happening with mortgages rates? The interest rate on a typical two-year fixed rate mortgage has breached 6% for the first time in 14 years. The typical deal has a rate of 6.16%, according to Moneyfacts, a level not seen since the financial crisis in November 2008.

What does that mean in practical terms? Most borrowers are on fixed-rate mortgages, so are insulated from the upheaval for the time being. But average homebuyers coming to the end of their mortgage term in the next year could see the cost of their monthly repayments rise by more than £300 a month despite having made three years' worth of payments, analysis by specialist property lending Octane Capital suggests. Around 1.8 million fixed mortgage rate deals are ending in 2023, according to UK Finance.

Can't I try to look around for a deal? You can try, but hundreds of mortgage deals have been withdrawn by banks and building societies as they digest the fallout from last week’s mini-budget which has altered the outlook for interest rates. The best rates on the market currently are 4.91% for a two-year fix, but you can compare rates here.

Why are lenders pulling deals? The outlook for interest rates has changed and lenders need to ensure their mortgage products are profitable, as well as affordable for customers. Lenders price their mortgage interest rates against the Bank of England base rate which markets are predicting is set to soar.

Why is this happening now? UK chancellor Kwasi Kwarteng’s plans to cut taxes spooked markets amid fears of pensions funds collapsing, along with expectations of an aggressive rates rises. The Bank of England was forced step in to prevent the bond market from entering a downward spiral.

Interest rates are expected to climb sharply as the BoE attempts to control inflation (Yahoo News UK/Flourish)
Interest rates are expected to climb sharply as the BoE attempts to control inflation (Yahoo News UK/Flourish)

Where's the interest rate at now? The current Bank of England base interest rate sits at 2.25%, after it was increased in September. This rate affects how much banks charge for borrowing including mortgages, loans and credit cards. Threadneedle Street has already hiked rates seven times in a row since December to the highest rate in 14 years and has warned further increases should be expected. The next interest rates decision will be on 3 November.

How high can interest rates go? Markets had originally priced in up to 6% interest rates but after several U-turns from the government, traders are now predicting interest rates to hit between 5.5% and 5.75% by next year. The base rate decision is a trigger for lenders to start increasing loan rates.

Prices rose by 9.9% in the year to August 2022 (Yahoo News UK/Flourish)
Prices rose by 9.9% in the year to August 2022 (Yahoo News UK/Flourish)

Can't the Bank of England stop these hikes? To keep inflation low and stable, the Bank of England has an inflation target of 2%. This helps everyone plan for the future. If inflation is too high or it moves around a lot, it’s hard for businesses to set the right prices and for people to plan their spending. But if inflation is too low, or negative, then some people may put off spending because they expect prices to fall. Inflation is currently at 9.9%.

Why are markets in a turmoil? Markets imposed a reality check on Liz Truss as, within days of taking office and unveiling her plan, her government was embroiled in chaos as the pound plunged and the Bank of England had to intervene to stop UK pension funds from collapsing amid investor fears over the health of the country’s finances.

Is there any good news in this? Yes, savings. As interest rates look set to continue to rise, savers are turning away from the stock market and pouring money into cash savings and bonds. Savings rates have reached a 13-year high following the launch of a new best-buy account that pays savers 4.11%.

Watch: How does inflation affect interest rates?