The Bank of England has announced that interest rates are going up to 3%, the highest in 14 years.

It’s not a surprise as the rate has only been going in one direction for eight months but the sharp jump is significant. 

The move amounts to the biggest single rise since the 1980s – and there could be more to come.

As well as having a big impact on the nation’s economy, it will also impact the personal finances of millions of people.

Here’s everything you need to know about today’s big announcement.

What is the interest rate and who sets it?

The interest rate – or the base rate – has a huge bearing on how much money is swirling around in the economy.

Under arrangements set up in 1997, the Bank of England is in charge of deciding where the rate should stand and is tasked by the government with trying to keep inflation at 2%.

In basic terms, when inflation is low, it’s okay for interest rates to be low because it encourages lending, borrowing and investment.

But when inflation is high and inflation needs to be suppressed, the interest rate is raised – usually in small increments of 0.25% – in an attempt to stop prices from climbing further.

With inflation now in double figures, the Bank was almost certain to put interest rates up and they confirmed that move this morning, announcing the biggest hike since 1989.

Andrew Bailey, the governor of the Bank of England, announced the move during a press conference (Picture: PA)

What does it mean for household budgets?

Interest rate rises are bad news for people who have mortgages, especially for people coming off a fixed rate mortgage and looking to get a new deal.

The 0.75 percentage point rise today will add around £3,000 a year on to mortgages for households who sign up to a new contract this year.

According to Moneyfact, the two-year fixed rate is now 6.47%, compared to just 2.29% last year.

It’s particularly bad news for young buyers who have taken out big loans in order to get a foot on the ladder, according to Simon Lambert, editor of This Is Money.

He warned: ‘House prices are more expensive compared to average wages than they have ever been and this has led to borrowers taking on considerably bigger mortgages compared to their salaries than their parents’ generation did – enabled by record low interest rates.

It’s a bad time to be trying to get a new mortgage (Picture: Bloomberg)

‘Now that interest rates have started to rise much faster than anyone expected, mortgage rates have jumped substantially and this is having a hefty impact on people’s finances.’

The move will mean a £73.49 monthly increase – or around an extra £880 per year – for the average tracker mortgage holder.

Just under one in 10 (9%) outstanding residential mortgages are trackers and around four in five (78%) are fixed-rate deals.

The average standard variable rate (SVR) mortgage meanwhile will increase by £46.22 per month, according to UK Finance’s figures, if a borrower’s lender passes on the base rate increase in full.

Will this situation last? Richard Donnell, executive director of research at Zoopla said: ‘Home buyers need to realise that 4% to 5% mortgages are set to be the norm in future, not the 1% to 2% of recent years.’

Is there any good news for consumers?

In theory, pushing the interest rate up is supposed to encourage people to spend less and save more.

The added incentive is that banks will likely look to pay out more on their savings account to encourage consumers to hold their money with them.

That’s good news for people with money in the bank but it’s important to remember that the rampant inflation rates will still likely outstrip any gains, meaning the money in your bank will still effectively be worth less in a year’s time even if you’ve earned a bit back.

More: News

How will it impact the country’s finances?

While putting interest rates up is necessary to dampen inflation, it can also have a negative effect on growth.

The Bank has warned the UK is facing a ‘tough’ challenge and could be on course for the longest recession since records began in the 1920s.

Gross domestic product – a measure of the size of the economy – could shrink every quarter for two years, with the economy only beginning to expand again in the middle of 2024.

It might not necessarily turn out to be that bad and inflation rates may not hit the 5.2% levels Bank economist admit they could, but hiking interest rates is by no means a silver bullet that will get the country’s finances booming again.

Get in touch with our news team by emailing us at [email protected].

For more stories like this, check our news page.

What the Bank of England’s decision to put rates up to 3% means for the economy and for your finances.