Higher interest rates create £16bn household boost | City & Business | Finance

Households have received a £16 billion boost from higher interest rates, helped by “forced” saving during the coronavirus pandemic and trends in the mortgage market, a think tank has calculated.

But the boost has not been felt evenly by households across the UK and it could also be significantly unwound this year, presenting a fresh living standards challenge, the Resolution Foundation said.

The foundation examined the impact of the Bank of England’s rate-rising cycle between December 2021 and August 2023, when interest rates increased from 0.1% to 5.25%, on household balance sheets and incomes.

It said that some other rate-raising cycles in recent decades have tended to push up households’ debt repayments by more than any extra income from savings.

But the foundation said the opposite has happened over the course of the Bank’s latest rate-rising cycle, delivering an “income boom” of about £16 billion.

Changing mortgage preferences have played a key role, it said. Many households are sitting on fixed-rate mortgage deals, which has slowed the pass-through of rate rises to the mortgage costs paid by homeowners.

The income boost from higher savings interest has been more immediate – with real income from savings rising by £34 billion – more than offsetting the £18 billion rise in debt interest costs to give a net interest income boom of £16 billion – the foundation said.

Toughened mortgage lending rules, which were introduced following the financial crisis, have also helped to reduce household debt as a proportion of income, it said.

The income boost has not been felt evenly across households though, with older households the biggest beneficiaries, according to the foundation, which is focused on improving living standards for people on low to middle incomes.

The average household headed by someone aged 65 to 74 has around three times the interest-bearing savings as a household headed by someone aged 35 to 44 (£57,000 versus £20,000).

Households in the older age group have £14,000 in outstanding debt typically, compared with £98,000 on average in the younger age group.

Looking ahead, the foundation also warned that the income boost could be nearly completely unwound by the end of 2024, with households’ debts expected to increase and people continuing to remortgage onto new, higher rates than they have paid previously.

This means that the Bank’s decision to raise rates between 2021 and 2023 could cause a significant living standards tailwind in 2024, even while the Bank starts to cut interest rates, the foundation added.

Simon Pittaway, senior economist at the Resolution Foundation, said: “When interest rates rose in the 80s, 90s and 2000s, household incomes tended to fall directly, with interest payments on debt rising by more than extra income from savings.”

“But changes to the UK mortgage market and enforced saving during the pandemic have meant that the Bank’s latest rate-raising cycle has actually boosted household incomes by £16 billion.”

“The impact of the unlikely income boost has been very uneven – older, asset-rich households have gained the most, while younger mortgagor households have been hit hard.”

“And while rising rates have boosted incomes over the past two years, they are likely to reduce them in the year ahead – presenting a fresh living standards challenge in an election year.”