Key Takeaways
- UK interest rates still much higher than in Europe.
- Inflation still well above target in the UK.
- Bank of England has cut four times since the 5.25% peak.
- Concerns over UK economy support the case for cuts.
After the latest meeting on June 19, there are now just four Bank of England monetary policy meetings left in 2025. Financial markets still expect interest rate cuts in August and November 2025, which would take rates to 3.75%, maintaining the cadence of quarterly rate cuts.
With UK inflation still significantly above target and a range of external economic threats such as Middle East conflict adding to uncertainty, what is currently missing from the interest rate debate is when the Bank of England stops reducing interest rates and at what level.
At 2%, the eurozone may already be close to its “terminal rate” after a succession of rate cuts, according to economists. While the European Central Bank has cut the key deposit rate in half from its 4% peak, in the UK rates are just one percentage point lower than the peak of 5.25%.
The “terminal” or “neutral” rate is a level where a central banks ceases to cut (or hike) so that monetary policy is neither restrictive or accommodative. In the Bank of England’s case it will want to see that UK inflation has been tamed for good: its May forecast put inflation falling back to the 2% target at the start of 2027. In June it said that it will be maintaining rates “in restrictive territory so as to continue to squeeze out existing or emerging persistent inflationary pressures.”
UK Inflation is Higher, Interest Rates Are Higher
Why are UK rates higher than in Europe? As the Bank of England’s only official mandate is to control inflation, it’s obvious that the rise in the cost of living is higher than in equivalent economies.
Headline CPI UK inflation is at 3.4%, compared with 1.9% in the eurozone, 2.4% in the US, 0.2% in Sweden, and deflation in Switzerland.
As well as battling global forces such as rising oil prices, the UK has its own domestic inflation problems too, not least because tax rises in April have pushed employers’ costs higher.
And there is a growing sense that the worst may still be ahead in terms of the tariff impact on the UK economy, giving the Bank of England even more scope for caution and “wait-and-see” policymaking.
Interest Rates Not on a Preset Path
“Given the outlook, and continued disinflation, a gradual and careful approach to the further withdrawal of monetary policy restraint remains appropriate. Monetary policy is not on a preset path,” the Bank said in a statement accompanying the June 12 decision.
The phrase “gradual and careful” has been maintained in the official language since the start of the easing cycle, which began with the first cut in August 2024, when rates were 5.25%.
Morningstar’s international economist, Grant Slade, says the Bank is still focused on specific aspects of the UK’s inflation dataset, namely employment and salary numbers.
“The BOE is likely to take a cautious approach to further rate cuts throughout 2025 with wage and services inflation still running hotter than the central bank would ultimately like.”
Michael Browne, at Franklin Templeton’s FT Institute, says that, given the expectations of slowing pay growth and further easing in inflation, the “gradual and careful” mantra is now “looking distinctly old fashioned.”
“We think that the MPC is stuck in a quandary,” says Matthew Ryan, head of market strategy at Ebury.
“While a weakening in the jobs market should allow for a couple more cuts during the rest of the year, we think that rising inflationary pressures will deter the committee from easing policy any quicker than that,” he adds.
How Many More Rate Cuts in 2025?
Investors expect the BoE will cut rates at two meetings in the second half of 2025.
With no meeting in July, rate cuts are expected on Aug. 7 and Nov. 6. With no cut anticipated in December, this would leave the base rate at 3.75% by the end of the year.
If the two further cuts do occur, however, the Bank of England will close the year having made four cuts of 0.25% each.
Where Will UK Interest Rates End Up?
What does the current voting pattern of the MPC suggest about the future path of rates? Six voted for no change in June, with three voting for a quarter-point cut. Two of those, Swati Dhingra and Alan Taylor, voted for a half-point cut in May. Taylor, a new MPC member as of 2024, has argued the case in the media for faster rate cuts than the market is anticipating. He is concerned by the deterioration in the UK economy because of global forces.
What about 2026? There are eight meetings next year and swaps data is suggesting no rate cuts at this stage, but this is likely to change as the meetings approach.
Following the reaction to the June hold, there was little mention of the “terminal rate” of interest.
Still, Simon Dangoor, head of fixed income macro strategies at Goldman Sachs Asset Management, was the only commentator this month to pin a figure on where interest rates will settle in this cycle:
“We continue to expect the bank to resume rate cuts in August, followed by a shift to consecutive reductions starting in November, ultimately bringing the bank rate down to 3.25%.”
If this turns out to be correct, that will mean the Bank will have made two percentage points of cuts since 2024, bringing rates down from 5.25% to 3.25%. This level is higher than many economists predicted when the rate-cutting cycle started, higher than in eurozone, Switzerland and Sweden. In terms of the UK economy, mortgage rates are still higher than expected, but so are gilt yields and UK savings rates.
What Do Industry Experts Say About UK Interest Rates?
After the June 19 meeting, the range of opinions on what happens next was divergent.
Matthias Scheiber, head of multi-asset solutions at Allspring said:
• Further rate cuts are warranted, “given the deterioration in labor market conditions and the absence of a clear catalyst for growth.”
Peter Goves, head of developed market debt sovereign research of MFS Investment Management, expects an August cut.
But Andrew Wishart, senior UK economist at Berenberg, said that “hawkish caution” among MPC members supports a rate hold in August.
“Survey data hinting at a recovery in labor demand suggest that the deterioration in the labor market will not get any worse once firms complete their adjustment to the policy-induced increase in staff costs in April. As companies pass those costs on, inflation is likely to prove too stubborn for the Bank to cut again this year,” he added.
Matthew Ryan, head of market strategy at Ebury, said there’s a “degree of skepticism” around an August cut.
Joaquin Thul, economist at EFG Asset Management:
• If data continues its current trend, “a rate cut at the next meeting in August will start to look more likely.”
Andrew Jones, portfolio manager on the global equity income team at Janus Henderson Investors Expects, two more cuts this year especially with GDP growth subdued and inflation moving back to target.
What Are Other Central Banks Doing About Inflation?
Western economies currently have much in common. Concerns over tariffs, economic growth, government debt, currency markets, tax and spending.
But there are significant divergences on monetary policy across the major central banks shown in the chart above. Rates in the US are highest at 4.25-4.50%: the Federal Reserve cut rates three times in 2024 but has yet to do so in 2025, despite political pressure from President Donald Trump.
At the opposite end of the scale, having seen its currency strengthen and exports cheapen in the wake of tariff announcements, Switzerland is facing deflation and the possibility of negative interest rates. Official interest rates in Swizterland are now 0%.
In the middle is the Swedish Riksbank and the European Central Bank, with rates at 2.25% and 2%.
This article was written by James Gard and Ollie Smith.
