Interest rates cut to 3.75% but further reductions to be ‘closer call’

The Bank of England said interest rates had been cut to 3.75%, the lowest level in almost three years, but said further cuts would be a “close call”.

In a knife-edge vote, policymakers voted 5-4 to cut rates from 4%, reflecting concerns about rising unemployment and weak economic growth.

The bank said interest rates “are likely to continue on a gradual downward path” but warned that decisions on further cuts next year would be more controversial.

Inflation is now expected to fall to “close to 2 percent” next year, the Bank’s target, which is earlier than previous forecasts. However, the economy is estimated to see zero growth in the last few months of this year.

The decision to reduce borrowing costs from 4% was widely expected; After this week’s figures showed inflation, the rise in interest rates slowed to 3.2% in the year to November.

“We still think interest rates are on a gradual downward path, but with every cut we make it gets closer and closer to how far we can go,” said Andrew Bailey, the bank’s governor.

He later told broadcasters there was “good news” that inflation would “come down a little quicker than we thought” after this year’s “bump”.

However, the President remained undecided on the timing of further interest rate cuts.

While the cut is likely to be good news for those looking to borrow cash or take out a mortgage, savers may see a reduction in their returns.

Around 500,000 homeowners have a mortgage that “tracks” Bank of England interest rates, and Thursday’s cut is likely to mean a reduction in monthly repayments of typically £29.

Although the vast majority of mortgage customers are on fixed-rate deals, homeowners with standard variable rates are also likely to face lower payments and so will not be immediately affected by the latest decision.

Kayleigh Taylor told the BBC she had previously hoped to make a cut when she remortgaged because her mortgage repayments had increased by £1,000 a month.

“When we bought the property we’re in now, we only had to stay in the house for a year due to circumstances. Then we had to remortgage and that was the worst time,” he said.

The family will re-mortgage next year but if rates continue to fall they may consider moving from their current home in Billericay, Essex, to a larger property.

“We are in a bit of a state of uncertainty about whether we would rent again and stay where we are, or whether, in an ideal world, we would want to move somewhere more rural and less residential,” he said.

The bank said that inflation is likely to fall by close to 2% in the spring/summer period of next year, following the tax and spending policies announced in last month’s budget and the easing in oil and gas prices. Previously, this was not expected to happen until 2027.

Chancellor Rachel Reeves announced the government will cut household energy bills by £150 from the budget, as well as freeze fuel duties, medical prescriptions and rail charges.

However, the Bank said weak economic growth in November led it to expect zero growth in the last few months of this year.

The government has made growing the economy its main priority as part of its efforts to raise living standards.

The bank said information gathered from businesses across the country pointed to a “sluggish economy” and that firms were concerned about speculation ahead of the Budget.

Consumers were “cautious and focused on getting value for money”, he said, adding that food stores were “smaller than normal”.

“Some supermarkets are concerned the Budget will reduce Christmas food and drink spending, but discounters say early sales of cut-price seasonal food have been solid so far.”

The Christmas period is the key money-making period of the year for restaurants and pubs, but the Bank said hospitality businesses were trying to cut spending and “limit price rises as much as possible, given fragile demand and growing concerns about affordability for consumers”.

Latest figures showed that food prices were the main factor behind the decline in inflation in November.

Mr Bailey said he was “particularly pleased” that food price inflation had decreased.

“We’ve had some real challenges in recent years, with very big shocks to the world economy. I’m certainly very encouraged because I think we’re seeing progress,” he said.

Ruth Gregory, deputy head of UK economist at Capital Economics, said analysts believed a rate cut in February was possible as inflation fell more than the Bank expected.

He also added that it was possible that “interest rates could fall to 3% in 2026, rather than the low of 3.5% currently priced in the market.”

Reacting to the bank’s decision, the chancellor said it was the “sixth rate cut since the election – the fastest cut in 17 years, good news for families with mortgages and businesses with loans”.

But shadow chancellor Mel Stride said a cut in interest rates would be “welcome news for many families” but said the cut reflected “growing concerns about the weakness of our economy”.

“Rachel Reeves’s economic mismanagement has left the Bank of England facing the impossible dilemma of balancing high inflation with a fragile economy.”

The Bank, which is independent of the government, sets interest rates in order to keep increases in consumer prices under control.

The theory behind raising interest rates to combat inflation is that by making borrowing more expensive, more people will cut back on spending, leading to lower demand for goods and moderating price increases.

However, this is a trade-off where high interest rates can harm the economy as businesses refrain from investing in production and employment.

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