Inflation down and wages up: could mortgages and interest rates be next?

Is the tide turning for borrowers? What falling inflation and rising wages could mean.

The UK economy is navigating a delicate balance of inflation, wage growth, and interest rates, with significant implications for households.

Inflation, the rate at which prices increase, dropped to 2.6% in March 2025, down from 2.8% in February, driven by cheaper petrol and slower rises in leisure costs. However, this respite may be short-lived.

The Bank of England projects inflation could climb to 3.7% between July and September 2025, spurred by higher energy prices, water bills, and bus fares. Analysts warn it may reach 4% over the Summer, with utility bills up 6.4% and water bills soaring 26%.

Global trade tensions, including potential US tariffs, could further inflate prices. Despite this, inflation is expected to drift back toward the Bank’s 2% target by late 2027.

Wages are currently outstripping inflation, providing some relief. From November 2024 to January 2025, average pay (excluding bonuses) rose by 5.9%, delivering a real wage increase of 3.2% after inflation adjustments.

Private sector pay grew faster than public sector earnings, but a softening job market, with declining employment and fewer job adverts, raises concerns.

Public sector pay rises of 5.5% without productivity improvements could drive inflation higher, as private wages often follow suit.

The planned increase in employer National Insurance Contributions (NICs) and the minimum wage in April 2025 may push businesses to raise prices or cut jobs, adding pressure to household budgets.

Interest rates, set by the Bank of England, have fallen three times since August 2024, from 5.25% to 4.5% by February 2025, to bolster growth while taming inflation. Rates were held at 4.5% in March, but with inflation expected to rise, the Bank is proceeding cautiously.

Markets now forecast up to four rate cuts in 2025, potentially lowering rates to 3.5%, especially if global trade issues weaken the economy.

Lower rates reduce borrowing costs, directly benefiting homeowners on tracker mortgages, whose payments adjust with the base rate.

The prospect of further rate cuts has sparked talk of a potential mortgage price war. Lenders, facing intense competition, are already cutting fixed-rate deals to attract borrowers.

In early 2025, two-year fixed mortgage rates dipped below 4% at some high street banks, with five-year fixes not far behind.

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This trend could accelerate as rates fall, with smaller lenders and building societies likely to offer aggressive deals to gain market share.

For the 80% of homeowners on fixed-rate mortgages, many of whom face renewals in 2025, this could mean lower repayments.

However, borrowers must weigh up their options, as lenders may withdraw offers if inflation spikes unexpectedly.

Households should prepare for higher costs in 2025, with rising utility and water bills squeezing budgets. Savers may see returns diminish as inflation erodes the value of cash and savings rates.

With wages growing but economic uncertainty looming, managing debt and securing affordable mortgage deals will be key to financial stability.

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