BofE raises interest rates after 'unexpected' increase in inflation

The Bank of England has increased interest rates by a further 0.25 percentage points to 4.25 per cent in March, marking the eleventh consecutive interest rate rise since December 2021.

The increase was announced following an “unexpected" increase in the Consumer Prices Index to 10.4 per cent, primarily driven by rising food costs, although the Monetary Policy Committee (MPS) suggested that inflation "remains likely to fall sharply over the rest of the year."

"The labour market has remained tight, and the near-term paths of GDP and employment are likely to be somewhat stronger than expected previously," the MPC minutes stated.

"The extent to which domestic inflationary pressures ease will depend on the evolution of the economy, including the impact of the significant increases in Bank Rate so far. Uncertainties around the financial and economic outlook have risen".

XPS Pensions' defined benefit (DB) UK tracker revealed the impact of the continued interest rate rises on UK pension schemes, showing that, since the first interest rate rise in December 2021, DB pension schemes have reduced in value by approximately 35 per cent or around £800bn.

However, it also showed that, overall, funding level improvements have been "extremely positive" despite high levels of observed inflation over the period, adding around £100bn to scheme liabilities.

Commenting on the recent market movements, XPS Pensions Group chief investment officer, Simeon Willis, stated: “Typically, a rate rise coupled with the prospect of falling long-term inflation usually spells good news for pension schemes.

"However, over March we have seen a reduction in long-term gilt yields as expectations over future rates rises have been pared back and so many under hedged schemes will have seen funding levels deteriorate over the month despite this rates rise.

"Elsewhere, and given the current turmoil within the banking sector, pension schemes will also be keeping a close eye on the financial markets in the hope that this announcement does not have an adverse impact on equity and credit markets, which is the other key driver in scheme funding levels.”

Industry experts have also highlighted the potential impact on defined contribution (DC) savers, with Smart Pension chief investment officer, Paul Bucksey, noting that there are likely to be some "important knock-on effects" for DC savers, which people close to or in retirement should be alert to.

He continued: "Further nervousness about the banking sector could have a knock-on effect to the values of equities and bonds, which the majority of pension savers are invested in.

"Those close to or in retirement could end up with an unwelcome fall in the value of their pension pot, which in turn could reduce the amount of income they can take."

However, Bucksey noted that rising interest rates will be "good news" for those thinking of using their retirement savings to purchase a guaranteed income in the form of a lifetime annuity, pointing out that annuity rates improve when interest rates increase and are at their highest for over a decade.

“We urge those close to or in retirement to take a really close look at all of the investment choices available in their pension and decide whether their pension savings are invested appropriately," he added.

"Are they taking enough risk, or too much? If they are taking a flexible income from their pension pot, do they need to reduce the amount they are taking if their pot has fallen in value.”

This was echoed by Standard Life managing director for customer, Dean Butler, who warned that retirees struggling to pay for their increased housing costs might naturally be tempted to dip further into their pension savings.

"While in many cases this will be a sensible decision, there’s always the risk of running out pension savings later in life," he stated.

"We would urge people to first look at ways in which they can review their budgets and it’s also worth checking entitlement to state benefits - a good first port of call for this is to visit the benefits calculators page on the government website Many benefits are hugely unclaimed, including Pensions Credit.’

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