Interest Rates appear in the news almost every week. They guide inflation and influence how people borrow and save. As the rates change, they effect your household budget and your long-term plans.
What is Interest?
Interest is the extra amount you pay when you borrow money. It is also the extra amount you earn when you save money. Banks and lenders express interest as a percentage of the amount borrowed or saved.
For example: You borrow £10 with a 10% interest rate. One year later, you repay £11. You repay the £10 you borrowed plus £1 interest.
Although banks may use more detailed calculations, the basic idea stays simple. You always pay more when you borrow and you always earn extra when you save.
Interest also influences behaviour. When interest rates stay low, borrowing feels more attractive. When interest rates rise, saving becomes more rewarding. Because of this, interest shapes how people and businesses use money.
What is the Bank of England Base Rate?
The Bank of England sets the Base Rate, which is the main interest rate in the UK. It influences almost every other interest rate in the economy. Banks pay this rate when they borrow money from the Bank of England. This cost guides the rates they offer to customers.
A group called the Monetary Policy Committee meets eight times each year to review the base rate. The committee aims to keep inflation close to the 2% target. When inflation rises too quickly, the committee raises interest rates. When inflation slows, the committee may lower interest rates.
Why Do Interest Rates Change?
Interest rates change because the Bank of England uses them to control inflation. When inflation rises too fast, the cost of everyday items increase. To slow this down, the Bank raises interest rates. Higher rates encourage saving and reduce borrowing. As people spend less, businesses find it harder to raise prices. This helps reduce inflation.
Lower interest rates work in the opposite way. Borrowing becomes cheaper and saving feels less rewarding. People spend more and business often raise prices. This can increase inflation.
Interest rates help the Bank guide the economy. When the economy grows too quickly, Higher interest rates help cool demand. When the economy weakens, lower interest rates help support activity.
How Do Interest Rates Affect Mortgages?
Mortgages are long-term loans used to buy homes. Because repayments span decades, interest rates play a major role in what you pay over time. When the base rate rises, many mortgages become more expensive. When the base rate falls, some mortgage repayments drop. The effect depends on your type of mortgage.
Fixed-Rate Mortgages
A fixed-rate mortgage keeps the same interest rate for a set period, usually two or five years. Your monthly payments stay the same during this time, which provides stability and predictability.
When the fixed term ends, you move onto a new rate. If interest rates rose during your fixed period, your next deal may cost more. If rates fell, your next deal may cost less.
Tracker Mortgages
A tracker mortgage follows the Bank of England base rate. When the base rate rises, your payments rise. When the base rate falls, your payments fall. Because payments can change several times each year, this type of mortgage feels less predictable.
What Do Rising Interest Rates Mean for Savers?
Rising interest rates usually benefit savers. Banks often increase the interest they pay on savings accounts, which helps savings grow faster. When interest rates fall, savers earn less. Savings accounts may offer lower returns, so some people adjust their financial plans or move their money to different products.
Who Gains and Who Loses When Rates Change?
Interest rate changes create different outcomes for different groups. When interest rates rise, savers gain because they earn more. Borrowers lose because loans become more expensive. Higher mortgage payments can reduce household budgets. Businesses may also delay investment when borrowing costs rise. When interest rates fall, borrowers gain because they pay less on their loans. Savers lose because returns drop.
What is Happening with Rates in 2025?
Interest rates rose sharply after the COVID-19 Pandemic. They increased from 0.1% in late 2021 to 5.25% in August 2023. This rise helped reduce the biggest inflation surge in more than 40 years.
Since then, the Monetary Policy Committee has cut the base rate several times. In November 2025, the base rate stood at 4%. Inflation has fallen but remains above the 2% target.
The committee expects rates to fall further if inflation continues to ease. However, the committee remains cautious. Slower economic growth, a softer labour market and global uncertainty may influence future decisions.
What Challenges Affect Future Rate Decisions?
The Bank of England estimates that it can take up to two years for interest rate changes to affect the wider economy. Because of this delay, interest rates act as a blunt tool. Decisions made today may not show their full impact until much later.
Other risks also shape future rate decisions. Higher taxes may increase business costs. Trade tensions may push up prices. A weaker currency may raise the cost of imports. Each factor adds uncertainty to the inflation outlook.
The Monetary Policy Committee must stop inflation from rising too high while avoiding a slowdown that becomes too severe.
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This article is for general informational purposes only and does not constitute legal or financial advice. While we aim to keep our content up to date and accurate, UK tax laws and regulations are subject to change. Please speak to an accountant or tax professional for advice tailored to your individual circumstances. Pi Accountancy accepts no responsibility for any issues arising from reliance on the information provided.