What are interest rates? A quick guide
Why interest rates are so important – especially when they change. …
What are interest rates? A quick guide
Interest rates are big news when they change – but why? If you’re not familiar with what they are and how they affect you, here’s our quick guide to what it all means.
Interest is the extra cash you get charged for a loan
If a friend loans you £10 at a 10% interest rate, you’ll pay them back £11. That’s the £10 you borrowed plus an extra £1 (10% of £10) as interest. Banks have more complicated ways of calculating this, but that’s the general idea.
Rates are just how much interest you pay
If you hear about rates going up, that means you’ll pay more interest on borrowed money. You might also hear people talk about getting better rates on some bank loans, or really high rates on things like credit cards and payday loans.
They’re a big deal for people with mortgages
Mortgages are special – they take decades to pay back. So to make sure banks don’t lose money in the long run, the interest rate gets renegotiated at least every few years. And because the loan itself is so big, small changes of a few percent at the wrong time mean you could find yourself spending hundreds of pounds more each month.
… and you might not be able to get a mortgage at all
If interest rates are very high, first-time buyers who lined up a house with a mortgage at 3% interest suddenly might find they can’t afford the monthly payments for the same house at 6%. And banks might decide not to loan the money at all if they’re worried about people being able to pay the higher amount every single month.
The Bank of England changes rates to keep things stable
If the Bank of England thinks prices are going up too quickly – called inflation – it can decide to raise interest rates to discourage people from taking out loans or spending on their credit cards. The idea is that if people have less money to spend, prices stop going up as fast. But it can hurt people who are already struggling to afford things.
But high interest rates can be good, too
If you have money in savings, higher interest rates should make the interest you earn on your savings go up too – since you’re basically loaning the bank your money while they hold on to it. But banks are often pretty slow to pass on the extra cash to customers – and sometimes don’t bump up their payouts at all.
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