Bank of England raises interest rates to 3.5% despite inflation falling

Rise in borrowing costs further strains mortgage holders amidst falling house prices and spiralling wages

Simon Bath, property expert and CEO of iPlace Global, explains what the Bank of England announcement means for prospective and existing homeowners

The Bank of England (BoE) has increased the cost of borrowing for homeowners by 0.5 percentage points, amidst fears that the UK is set to enter a year-long recession. The central bank's base rate rise to 3.5% comes as house prices continue to fall at the fastest rate since 2008, in line with spiralling wages and a worsening cost-of-living crisis severely curbing consumer demand. Buyer demand has already dropped by an alarming 20% compared to last year, while the average asking price for a UK home fell by 2.1% in the last month – down to £359,137 – in what has been noted as the largest pre-Christmas dip seen in four years, according to Rightmove. 

In light of this, Simon Bath, property expert and CEO of iPlace Global, explains how the BoE announcement is set to affect prospective and existing homeowners amidst a record squeeze on living standards.

“The Bank of England's interest rate rise comes at a time when we're seeing a sharp increase in the cost of living, resulting in a decline of wages in real terms and our collective disposable income. Across the board, we're seeing the economic outlook weigh heavily on households and businesses, pushing them into further debt – and we're already seeing a sharp rise in debt figures ahead of Christmas. As a result, we're seeing demand wean off and stock levels steady out for the time being – however, for mortgage holders, especially those whose monthly payments fluctuate with the base rate, this could place more pressure on household finances.

"The Office for Budget and Responsibility has predicted that house prices could drop by 9% over the next two years – if this is the case, and mortgage prices also fall alongside this, this could open up a brief window for aspiring buyers towards the end of next year. I think the telling sign however, will be the pace at which inflation decreases, and whether we will see wages grow again – we've seen inflation drop below 11%, but I think that the first few months of 2023 will be indicative of whether the market will stabilise, or whether transactions will dry up. 

“Lenders will undoubtingly begin to introduce new lending products to match the current climate, however, affordability criteria has also seen a massive jump compared to just a few months ago. The government must start to look at the state of the market and introduce new schemes to support both aspiring buyers and existing homeowners so that the dream of owning a home doesn’t become even more unattainable than it already is for many.”

Around four million households are likely to face higher mortgage payments in 2023, with the average monthly mortgage payment rising from £750 to £1,000 – which is equivalent to around 17% of the average pre-tax income, according to the BoE's Financial Policy Committee (FPC). The same report predicted that 2.4% of households are set to find it hard to afford their mortgage payments. However, small landlords who bought investment properties to rent out – 8% of Britain's homes – are likely to be hit harder by rising rates than homeowners, as they're more likely to have interest-only mortgage plans. As a result, landlords would need to raise rents by 20% to recover rising costs – however, this could have a catalysing effect on tenants, who are already seeing rising prices in other aspects such as energy and living costs. 

Interest rates have rapidly risen alongside mortgage prices throughout the last year, sending the size of available mortgage loans and buying power tumbling. Alongside this, surging inflation has meant that buyers are seeing their budgets slashed, with a new study from the Office for Budget Responsibility (OBR) projecting a 7.1% drop in real disposable income over the next two years. New reports highlight that the UK economy is doing better than many expected, with a resurgence of 0.5% in GDP growth in October – after three consecutive months of decline. However, with consumer spending falling, Bath explains that prices will still need to fall further for prospective buyers to get a shoe in the market – and with sellers less likely to compromise with lower prices, the alternative is that transactions could dry up. 

Despite a clear fallout from September's mini-Budget, analysts are predicting that borrowers could continue to see falling mortgage prices in the next year, with Capital Economics predicting that even after the Bank of England raises interest rates on Thursday, the cost of mortgage borrowing could fall even further. The research consultancy forecasts that rates on five-year fixed-rate mortgages will drop below the Bank Rate for a two-month period from December 2023 to January 2024 due to lenders' expectations of future borrowing costs – opening up a small window of opportunity for aspiring homeowners.