Experts have dialled down their expectation of one or two more interest rate cuts this year, and are now expecting borrowing costs to fall more slowly.
A reduction at the upcoming Monetary Policy Committee (MPC) meeting on 18 September has been all but ruled out, with traders forecasting a 97% chance of no change, according to LSEG data cited by Reuters.
The MPC cut rates by 25 basis points at its last meeting in August, bringing the base rate to 4%, but the committee was more divided than expected. The decision rested on a knife edge and required two votes before the 5-4 majority was attained.
Inflation also crept up to 3.8% in July, according to figures published on 20 August. It is expected to peak at 4% in September before gradually falling back, but is unlikely to return to the 2% target until the second quarter of 2027.
On 3 September, Bank of England governor Andrew Bailey told a committee of MPs that inflation risks had “gone up”. While rates are still on a downward path, he added that there is now “considerably more doubt about exactly when and how quickly we can take those further steps”.
Before August’s meeting, Deutsche Bank was forecasting two cuts in the final quarter of 2025, coming in both November and December. It has now revised this to just one, taking place in December. It still thinks rates will ultimately settle at 3.25%, but not until the second quarter of 2026 rather than the first.
Research provider Pantheon Macroeconomics thinks we will see no further cuts before the end of the year, unless further weakening in the labour market forces the MPC’s hand – specifically in the form of “chunky private payroll declines”.
Could the Autumn Budget influence interest rates?
This year’s Autumn Budget will be held on 26 November and economists are expecting big growth downgrades from the Office for Budget Responsibility (OBR). Combined with high borrowing costs, this could create a fiscal shortfall of around £20 billion, according to several forecasters.
Tax hikes are widely expected as a result. “We think [the Treasury] will have little choice but to raise at least one of the major taxes, despite ruling out hikes to income tax, employee National Insurance and VAT,” said economist James Smith in a report from financial institution ING. “We wouldn’t even rule out another round of hikes to employer National Insurance (payroll tax), despite the pressure it’s placed on the jobs market this year.”
In theory, raising taxes can help cool inflation because it leaves households and businesses with less disposable income or leftover profit, thereby reducing their spending power. Part of the reason last year’s Budget didn’t have this effect, despite including £40 billion worth of tax hikes, is that spending also increased by around £70 billion per year.
The prospect of a more restrictive Budget this year creates a case for lower rates, in Smith’s view. ING is forecasting one more cut before the end of the year.
Separately, Deutsche Bank recently updated its forecast, adjusting its call from November to December in terms of the next rate cut. This was largely driven by Bailey’s cautious words when speaking with MPs on 3 September, however the timing of the Budget was also a factor.
“With the date now confirmed for 26 November, some on the MPC may opt to wait for more clarity around the fiscal outlook before deciding on whether to cut Bank Rate further,” said Sanjay Raja, chief UK economist at the investment bank.
“Waiting for the details of the Budget would also allow the MPC to more carefully judge where 2026 CPI could land given announcements on index-linked, administrative and dutiable items.”
A tough tightrope for the Bank of England
The Bank of England has a tough tightrope to walk when deciding the timing and extent of future rate cuts. It needs to support growth while simultaneously bringing inflation under control. Cutting rates could boost the economy, but it could also allow inflation to rise further.
Right now, inflation seems to be the bigger concern. Although the labour market and economic growth are showing signs of weakening, it is happening at a gradual pace.
The latest labour market estimate suggests payroll numbers fell by 8,000 in July. Although this is the sixth consecutive decline, it is also the smallest in the series. Wage growth is falling, but remains strong at 5% annually (April-June).
Rate-setters are also concerned that wage-bargaining behaviour could heat up, with workers calling for larger pay rises to offset the effects of inflation. Food inflation, for example, has picked up considerably in recent months, impacting household budgets. Large pay rises could create problems given that wage growth is a big driver of inflation.
Meanwhile, although economic growth has not been strong, the UK does not appear to be on the brink of a recession either. Headline GDP figures show the economy grew by 0.7% in the first quarter and 0.3% in the second. This could give the Bank of England some breathing room when it comes to future interest rate decisions.
That said, the underlying picture could be weaker than these figures suggest. As the Bank itself has pointed out, much of the first-quarter growth was driven by front-loading activity as businesses tried to get ahead of Donald Trump’s tariffs. Likewise, the main driver of second-quarter growth was government spending, while more important growth engines like household spending looked weaker.
What do falling interest rates mean for mortgages?
A drop in interest rates generally translates into cheaper mortgages. The average two-year fixed-rate mortgage deal is currently 4.97%, while the average five-year deal is 5.02% (9 September).
This is significantly cheaper than this time two years ago. At its peak in August 2023, the average two-year rate was 6.85% and the average five-year rate was 6.37%, according to financial information site Moneyfacts.
This is good news for those coming to the end of a two-year fix. A drop in average mortgage rates from 6.85% to 4.97% equates to a £458 drop in monthly repayments for someone with £400,000 of borrowing. These calculations assume a total mortgage term of 25 years, and are based on figures we plugged into MoneyHelper’s mortgage calculator.
Things don’t look so good for those coming to the end of a relatively cheap five-year deal agreed before rates started rising in 2021. Their monthly repayments are likely to jump when they refinance.
Around 1.6 million fixed-rate deals are due to come to an end in 2025, according to trade association UK Finance.
What do falling interest rates mean for savings?
Some of the top savings deals have disappeared over the past 18 months, first in anticipation of base rate cuts and then in response to them. A combination of rate cuts and rising inflation means savers are being squeezed on both sides.
Fewer than half of all available savings accounts now beat inflation, according to data published by Moneyfacts in mid-August. Its report showed that 956 accounts were left offering a real return, down from 1,558 a year ago.
“After almost a year and a half of savings growth, many savers are slipping back into earning negative real returns as inflation figures jump again,” said Caitlyn Eastell, a Moneyfacts spokesperson.
“With inflation running higher than the interest savings are now earning, money left languishing in a low-interest account is losing its spending power – making it tougher to achieve a sense of financial resilience.”
If you are happy to lock up your cash for a year or so, it could make sense to fix your savings to lock in higher rates for longer. The top one-year fixed account with no minimum deposit requirement currently offers 4.37%. You can earn 4.16% in an equivalent ISA.
See our round-up of the best easy-access rates, one-year savings accounts, regular saver accounts and cash ISAs for the latest deals on cash savings.
Those with a longer horizon ahead of them could consider investing some of their savings. A diversified portfolio of investments typically outperforms cash over the long run, but a minimum horizon of five years is generally recommended. We take a closer look in our guide on saving versus investing.
What do falling interest rates mean for annuities?
Annuities are a way of turning your pension pot into a guaranteed income for life. You buy an annuity by using some or all of your pension savings.
How much income you get in exchange for your pot depends on annuity rates. These are linked to UK government bond yields, which are in turn linked to the Bank of England base rate. A cut in interest rates generally translates into a fall in annuity rates.
As interest rates rose from 2022, the annuity market experienced a period of unprecedented strength. At the moment, annuity incomes are hovering near all-time highs.
Recent data from Hargreaves Lansdown’s annuity search engine shows a 65-year-old with a £100,000 pension could get up to £7,793 per year from a single-life level annuity with a five-year guarantee.
These incomes have led to a revival in a market that was once very much relegated to the sidelines, with last year proving a bumper year for sales. Further interest rate cuts could result in annuity rates coming down, but the market still looks strong overall.
Helen Morrissey, head of retirement analysis at Hargreaves Lansdown, said: “Even if we do see incomes start to drift down, any movement should be fairly gradual, so interest should remain high. However, the prospect of further cuts coming down the line could persuade many to make a decision sooner rather than later.
“It’s a decision that shouldn’t be rushed. Once bought, an annuity cannot be unwound, so don’t leave room for regret. Scan the market before deciding on a quote and make sure you get the right kind of annuity for your needs.”
Contact one of our highly experienced mortgage advisors today on 0121 500 6316 to discuss your mortgage needs.
