Why Do ‘Official’ Interest Rates Matter So Much?

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Written By Farid Shojaei

Every month, central bankers gather to vote on if interest rates should change – but how does this affect you and the economy?

The fact is interest rates impact almost everyone who saves or borrows money.

Interest is the amount paid extra when borrowing money or paid to you when you have cash in a savings account, and is expressed as a percentage.

Small changes when the rate is low can have a big impact on the cost of living and what your savings might earn.

When the media talks about interest rates, they really mean the bank rate or ‘official’ rate of interest.

Risk and borrowing

This is the rate set by a central bank and applies to the bank’s dealings with other financial institutions. It’s not the rate banks, credit card companies and other lenders charge customers.

Financial institutions can set their own interest rates depending on how much they pay to borrow the money they lend, their business costs and the risk attached to lending the money.

The higher the risk, the higher the interest rate as the lender will feel the chances of you repaying the loan reduce.

Why does the interest rate matter?

The rate paid by a bank for looking after your savings is interest you earn, so how your savings perform affects the amount you have in the bank.

Interesting facts and figures

Then the rate you pay for borrowing a car loan, mortgage or for a credit card directly influences your personal spending power.

Don’t forget the cost of the goods and services you buy are also impacted by interest rates because businesses borrow to buy machinery, raw materials and to bolster their working capital. If the cost of borrowing is high for a business, it’s likely that price is passed on to customers, making their purchases more expensive.

Interest rates were cut to almost 0% in 2009 in response to the global financial crisis and have stayed low ever since.

The UK Bank of England interest rate is 0.75% and may drop lower in the coming months. The rate varies between countries.

Looking at nearly 30 major economies, the lowest interest rate is -0.5% in Sweden and Switzerland, while the highest is 14% in Turkey.