As the UK economy continues to feel the impact of the Coronavirus pandemic, the possibility of the Bank of England setting negative interest rates has taken a step closer to becoming reality. In fact, just last week the Bank of England wrote to banks asking them how ready they would be if negative interest rates were introduced.
While all the signs look like they are pointing to this historic step being taken, it is still not a certainty. One reason for this is because there is no consensus that negative interest helps boost an economy.
Although no one can be sure if the Bank of England will decide to set negative interest rates, consumers should start considering what impact it will have on their personal finances if base rate is cut. To help consumer prepare in the event that negative interest rates are introduced, below we’ve looked at how it will impact savings, mortgage repayments, and credit card and loan borrowing.
Negative interest rates will likely see the already low savings rates fall further still. There is even the possibility that banks will charge savers for depositing their money into a savings account, although realistically this is unlikely for the average saver but may be a possibility for those with high deposits, for example over £500,000. Savers with a fixed rate bond or ISA will not see the saving rate change for the term of the deal, but if they are coming off a fixed rate deal, they will likely struggle to find another deal offering as competitive a rate.
Variable rate savings accounts, such as easy access savings accounts, will likely see the biggest fall in rates if interest rates turn negative. Already, easy access savings accounts have been impacted by two base rate changes, which has seen average rates fall from 0.56% on the 1 March 2020 to 0.23% on 1 October 2020. If base rate is cut further, it is highly possible that easy access account rates will fall further still.
With base rate at a historic low of 0.1%, savers already need to be more pro-active to ensure they get the best saving deals available. This means that savers should regularly check the savings charts to see the best deals on offer and act quickly to open new saving accounts.
Alternatively, although National Savings & Investment is set to cut the annual prize fund on its Premium Bonds next month to 1.00%, from its current rate of 1.40%, this rate still compares well against easy access savings rates. The main drawback with a Premium Bond is that savers are not guaranteed a return on their deposit and instead are entered into a monthly prize draw, whereas with savings accounts, interest is guaranteed (despite variable account rates being subject to change). The advantage of Premium Bonds is that they offer a secure, tax-free account, where savers can access their funds without penalty.
Savers who are prepared to take higher risks with their savings and who are looking for a long-term savings account, could consider structured deposits. These accounts guarantee that the initial deposit invested will be returned, but do not guarantee that any interest will be earned on the deposit. In return for this risk, structured deposits can result in investors earning higher returns on their initial investment than if deposited into a five or seven year fixed rate bond. To find out more about structured deposits, read our guide What is a structured deposit product?.
Those looking to deposit their money long-term and who are prepared to risk losing their initial investment, along with the potential of not earning any return on their deposits, could consider a stocks and shares ISA. This allows investors to make tax-free deposits up to £20,000 for the 2020/21 tax year. More information about this type of investment can be found on our stocks and shares ISA chart.
The Bank of England base rate can have an impact on mortgage rates, but mortgage providers consider many different factors when setting rates, with base rate just being one consideration. This means that if negative rates are set, it does not necessarily mean that mortgage rates will fall as a result. Instead, providers will consider the economy as a whole and what is happening in the housing market, with potential risk having significant impact on rates. For example, if indications show that house prices will fall, lenders will factor in the risk of borrowers having negative equity – which would mean homeowners owe more on their property than it is worth. This would result in mortgage lenders withdrawing products that require a low deposit of 5% or 10% or increasing rates on these deals.
Mortgage borrowers who have opted for a tracker mortgage would likely see a benefit from negative interest rates, but again, rates may not fall as low as borrowers initially think. The rate on a tracker mortgage is usually based on the Bank of England base rate plus a set percentage. This means that when the base rate falls, tracker mortgage rates fall, but the plus percentage keeps the rate above 0%. For example, if a tracker mortgage was based on the Bank of England base rate plus 1%, the rate paid on the current base rate of 0.1% would be 1.1%. In addition to this, many tracker deals have a collar rate, which means that the lender will not drop the rate below the collar rate. For example, if the collar rate was set at 1.5%, no matter how low base rate falls, borrowers will always pay a minimum of 1.5%.
The good news for mortgage borrowers is that, although rates could increase, if base rate remains low, mortgage rates will also likely remain comparatively low.
Again, negative interest rates do not necessarily mean that credit card and personal loan rates will fall. Those who have taken out a personal loan before negative interest rates were introduced would not see any changes to their monthly repayments as loan repayments are fixed. It could see loan rates fall, but rates are already low and, when factoring in risk, lenders may not be able to reduce rates any further. As credit card APR tends to be significantly higher than the Bank of England base rate, it is unlikely that credit card borrowers will see rates fall if negative interest is introduced. Instead, credit card borrowers should consider transferring their existing balance to a 0% transfer credit card, which will offer an interest-free period in which to repay the debt.
Information is correct as of the date of publication (shown at the top of this article). Any products featured may be withdrawn by their provider or changed at any time.