How the Bank of England's policy affects you

Band of England Image copyright Reuters
Image caption The Bank of England decides on the level of the Bank rate - used by lenders to set their own rates

The Bank of England has outlined its strategy for future interest rate changes - and it is likely to mean further pain for savers, but continued cheap mortgage rates.

Governor Mark Carney said that the Bank would not consider an increase in the current record low level of interest rates unless unemployment falls or inflation gets out of control.

So how might the strategy - known in the jargon as forward guidance - affect your financial decisions.

What has the Bank's governor said?

The current Bank rate - which affects the level at which financial institutions set their interest rates - is at a record low of 0.5%.

Mr Carney said that the Bank would only consider raising this rate if the UK unemployment rate fell below 7%. At present it is 7.8%.

Unemployment has not been at 7% since early 2009.

There has been some debate over how long it might be for the 7% level to be hit again. Some, including the Bank, have predicted that this could take three years. So that could mean no interest rate changes until 2016.

Why did Mr Carney bother telling us about this strategy?

The Bank was worried that, without explaining its strategy, there might be "unwarranted" expectations of an increase in rates.

That could feed through the system and affect new mortgage borrowers, savers, and businesses.

What will this mean for homeowners?

With greater certainty over interest rates, we are likely to see more of the same for mortgage holders, or those seeking a home loan.

That means there is a likelihood that mortgage rates will stay very low.

In fact, some commentators suggest that fixed-rate mortgages might fall even lower than their current low levels. Fixed-rate mortgages offer homeowners certainty, but the Bank is offering some of its own certainty now.

So lenders might have to cut prices - in other words, rates - to attract people to choose their home loan.

Owing to the certainty, they might also offer longer-term mortgages, such as five or even 10-year mortgages. Home loan rates look likely to be lower for longer.

This does not mean that anyone can get a mortgage. Applicants must still prove they can afford to make the repayments, and have the savings for a deposit.

Saving. Now that's tough isn't it?

Correct. A low Bank rate means that savers are finding it hard to find a decent return for their savings.

That has been made even tougher by the Bank's policy of buying up assets, known as quantitative easing (QE), and government schemes to encourage lending.

The Bank will not consider cutting QE levels as well unless this 7% unemployment threshold is hit.

So, this new policy is likely to mean more years of low savings rates, and it is not great for pension savers either. Allowing for a higher rate of inflation means existing savings will be eroded in time too.

There will be short-term certainty for retirees who might have been holding off buying an annuity - an annual retirement income bought from their pension pot - in case interest rates rose, giving them a better deal. The annuity rates they see now are likely to be what they will be offered for a while in this one-off transaction.

So should we all go out and spend, not save?

Hang on. Be careful about what is being said here.

The Bank is not saying it will definitely keep rates low until a certain date.

It is actually just outlining the conditions for considering raising the Bank rate and cutting QE.

If unemployment falls, or the rising cost of living gets out of control, then rates might change. That's something to consider when budgeting for a huge, and long-term financial decision, such as a mortgage application.

Even a loan can take a while to pay back, and if your job is at risk, then emergency savings might be needed.

How might small businesses be affected?

Business groups have said that the extra certainty on rates could make small enterprises more confident to invest as they will not be caught out by rising interest rates in the near future.

Yet, their ability to borrow to invest still depends on whether they can persuade banks to lend to them.

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