The Bank of England (BoE) has issued its latest inflation report and it is not good news for UK home owners. The Bank thinks that at least one more interest rise is necessary to curb inflation.
The BoE is tasked with managing inflation so that it remains at or under the 2pc target set by the Government. Unfortunately for the Bank, and us, inflation has crept upwards, forcing it to raise interest rates to bring inflation back under control.
In March inflation stood at 3.1pc, and fell to 2.4pc in June, however in its report, the BoE predicts that the inflation rate will not fall back to 2pc until sometime in 2009 and that's if interest rates “match market expectations”
If you are a borrower with a big mortgage, you will not like the sound of the “market expectations” for interest rates as the market expects rates to rise, certainly to 6 percent, and possibly higher.
Although slightly higher interest rates may not sound too concerning – though those with fixed rate mortgages coming to the end of their term might disagree – there is another point that the BoE makes in its report. It says that there is greater uncertainty about future inflation prospects.
With major stock markets becoming more volatile recently and oil prices remaining high, it is becoming more difficult for the BoE to predict where inflation will be at any point in the near future.
This means that the BoE's projection for when inflation will return to 2pc may, in fact, be wrong. It could be sooner or later and this would affect interest rates one way or the other.
Get used to high costs of borrowing
The period of interest rates at record lows is now over. We know that from what the BoE is telling us as it needs to keep interest rates above the current 5.75% until it can be certain that the battle with inflation is won.
Your mortgage, loans and credit card borrowings are going to cost more, and you need to consider this when planning your major purchases and household expenditure.
Let's hope that interest rates start to come down in 2009, if not before, as inflation responds to reduced consumer spending through higher costs of borrowing. The trouble is that worldwide volatility in money markets and economies could derail those projections, forcing a longer period of higher interest rates.
We need to temper our readiness to borrow – both for personal items and for mortgages – and get used to paying higher interest rates. Hopefully by doing that, the next Bank of England inflation report can be more encouraging and allows it to keep interest rates at, or near, the current level.
If you are feeling brave, you can read the August 2007 Bank of England inflation overview report here.