Written by: Danny Belton - Head of Lending
*This article was published on December 18th, 2024. Some information may no longer be current.
If you're wondering, what is inflation, what are mortgage interest rates, and how does inflation affect mortgage rates, then you're in the right place. We track the current inflation rate to bring you the most up-to-date and relevant information on this topic.
What is the current inflation rate?
As of December 2024, inflation in the UK currently stands at 2.6%, up from 0.3% in previous months. As the ONS report reveals, a rise in energy bills increased the consumer prices index (CPI) causing inflation to go against the downward trend so far.
One of our expert mortgage advisers, Kate Fuller, gives her opinion on the recent inflation announcement and what this could mean for the next interest rate announcement:
“Inflation ticking up to 2.6% isn’t as surprising as some would assume. Market fluctuations are very much the ‘new normal’, and with the Bank of England holding off from further rate cuts for the time being, we can expect higher mortgage rates for a while.
“Given the planned rise in gas and electricity costs for the new financial year, inflation is likely to worsen slightly before it gets better. However, with that being said, we’re in a much stronger position economically than we were in December 2023. While inflation has been somewhat sticky in recent months, it's still trending downward compared to earlier in the year, and the housing market is starting to find its feet again.
“If you’re looking to buy in 2025, there’s no time like the present to take the next step in your mortgage journey by speaking to an adviser."
How does inflation work?
Inflation refers to the general rise in the prices of goods and services over time. It’s usually calculated as a percentage change in a price index, such as the Consumer Price Index (CPI), which records the average price of regularly used products and services.
Inflation reduces the buying power of money, which means that with the same amount of money, you can buy fewer products or services over time. This is otherwise known as purchasing power. The rate of decline in purchasing power is measured by the average price of a basket of select goods. These are goods which we rely on or use most frequently.
Understanding mortgage interest rates
Mortgage interest rates are what lenders charge borrowers to loan them the money they need to buy a property. Borrowers that take out a mortgage to purchase a home borrow money from a lender and agree to return the loan over a certain period of time, with interest.
Mortgage interest rates can be fixed, which means they remain constant during the loan term, or variable, which means they can fluctuate on a regular basis depending on changes in underlying rates (such as the Bank of England's base rate).
How does inflation affect mortgage interest rates?
Inflation itself does not directly determine mortgage interest rates. Instead, central banks, like the Bank of England, set a national interest rate based on their assessment of overall economic conditions with inflation being just one piece of the puzzle. When inflation rises, central banks may respond by increasing interest rates in an attempt to slow down inflationary pressures and maintain price stability. Higher bank rates can influence mortgage rates, making them more expensive for borrowers.
Higher inflation can also lead to increased borrowing costs for banks and financial institutions. This can result in lenders passing on these increased costs to borrowers - usually in the form of higher mortgage interest rates.
Mortgage interest rates can also be influenced by market expectations of future inflation. If investors and lenders predict higher inflation in the future, they may ask for higher interest rates to compensate for the lack of purchasing power over time. Because of all this, mortgage rates may rise in response to inflation expectations.
Remember, inflation is usually a good reflection of how the economy is doing. When the economy is growing strongly and inflation is rising, demand for borrowing may increase, putting upward pressure on interest rates. Alternatively, if inflation is low and the economy is weak, central banks may reduce interest rates to stimulate borrowing and economic activity, potentially leading to lower mortgage rates.
What else affects mortgage interest rates?
It's important to note that while inflation is one factor that can influence mortgage interest rates, it’s not the sole determining factor. Ironically, money costs money, so if it’s expensive for lenders to borrow funds, this can affect mortgage interest rates. Market competition, regulatory policies, and the overall economic climate also play a role in setting mortgage rates.
Click below to find out why interest rates and inflation changes.
Keep in mind that economic conditions can change, and mortgage interest rates are subject to a variety of factors. You can sign up to our newsletter to receive up-to-date and accurate information regarding mortgage rates, and much more.
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How do interest rate changes affect me?
If you have a mortgage in the UK, it’s very likely that a change in interest rate will affect how much you pay, though the timing will vary. If you have a fixed rate deal, your interest rate will not change until your fixed term ends.
Standard variable rates
If you have a standard variable rate mortgage, then the interest you are charged is down to your lenders’ discretion. For instance, they can choose whether to pass on a larger or smaller rate increase than the Bank of England’s base rate.
Tracker mortgages
Tracker mortgages fluctuate in relation to another rate - often the Bank of England's base rate, plus a few percentage points. Tracker rates typically last two to five years before returning to a standard variable rate (SVR), so if you're towards the end of your term, you may try to convert to a fixed rate in an attempt to get a lower interest rate. Some tracker rates, on the other hand, can last the life of your mortgage.
Fixed rate mortgages
A fixed rate mortgage is a type of mortgage in which the interest rate and monthly repayment amount remains unchanged for a prearranged period of time. The advantage of a fixed rate mortgage is that it offers stability and predictability, as the borrower knows exactly how much they need to pay each month. This makes budgeting easier and safeguards against potential interest rate increases. Once the term expires, you can remortgage to a new deal, or else you will drop onto the standard variable rate (SVR), which could mean you end up paying more than you need to.
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Talk to one of our advisers
In an ideal world we’d be able to predict major financial shifts and trends in the finance world, but even with the BoE’s reassurance, we can’t say for certain when inflation or interest rates will rise or fall.
The best thing you can do is stay up-to-date with what’s happening and talk to an expert if you have any questions or concerns.
Is now the ideal time to speak to a mortgage adviser and review your mortgage? They can discuss whether this is still the right mortgage for you, or whether it’s time to remortgage to a new deal that better suits your needs. If you’re buying for the first time or looking to move soon, they can help ensure that you get a mortgage that’s right for you.
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References:
Important information
You may have to pay an early repayment charge to your existing lender if you remortgage.
Your home may be repossessed if you do not keep up repayments on your mortgage.
There may be a fee for mortgage advice. The actual amount you pay will depend upon your circumstances. The fee is up to 1% but a typical fee is 0.3% of the amount borrowed.
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