How do inflation and interest rates affect car finance?
If you’re thinking about getting car finance, you may be worried about inflation and interest rates affecting the deal you get. Unfortunately, when prices everywhere go up, it can affect how much you can borrow on your loan and your monthly payments.
But, understanding how these factors work can help you find a deal that suits your budget. This guide explains how inflation impacts interest rates, borrowing power, and car prices. We’ll also share tips to help you handle rising costs.
What is inflation, and how does it affect car finance?
Inflation is the rate at which prices increase over time, usually compared to the previous year. When it comes to car finance, inflation can influence both the cost of cars and the interest rates on loans.
Inflation can increase the cost of new and used cars. When inflation rises, it costs car manufacturers more to make the cars. They then, in turn, raise the prices of how much they are to buy. And, as new cars become more expensive, more people want to buy used cars. Because of this higher demand, it can make used cars more expensive too.
At the same time, lenders might adjust their interest rates to manage the impact of inflation, which could also increase the overall cost of your finance agreement.
How inflation affects interest rates
Inflation and interest rates are closely linked. When inflation rises, the Bank of England often raises interest rates to help control it. Higher interest rates, in turn, raise borrowing costs, which can cut spending and help control inflation.
For car finance, this can mean higher monthly payments and greater overall cost. If you already have a fixed-rate finance deal, your payments will stay the same for the remaining term of the fixed-rate period. However, if you’re on a variable-rate deal or looking to take out a new loan, rising interest rates could mean paying more each month. Variable-rate car finance deals are less common in the UK, and Car Finance 247 do not currently offer these.
It's important to note that interest rates vary between lenders, and the rate you’re offered will depend on your individual circumstances, including your income, credit score and financial history.
How inflation affects your borrowing power
Borrowing power is the amount a lender is willing to let you borrow based on your financial situation. High inflation could reduce your borrowing power in a few ways:
Higher interest rates: Rising rates mean higher monthly payments. Lenders assess whether you can afford these payments when deciding how much to lend.
Less disposable income: Inflation raises the cost of living in general, leaving many with less money each month. Lenders consider your income and outgoings, so higher living costs could mean they offer you a lower loan amount.
Strict lending criteria: In times of high inflation, lenders may be stricter with their lending to reduce risk. This could mean requiring larger deposits or offering lower loan amounts.
Bear in mind, though, that lenders assess affordability based on individual circumstances, so it’s worth checking what options are available to you.
Tips to get the best deal despite inflation
Shop around for the best deals – Interest rates vary between lenders, so it’s important to compare options. Even a small difference in rates could save you money over the term of your finance deal.
Think about a larger deposit – Putting down more money can decrease what you need to borrow. This, in turn, could lower your monthly payments and the total interest you’ll pay. A larger deposit may also make you a less risky borrower to lenders, which could get you a better rate.
Choose a fixed interest rate – Opting for a fixed-rate finance deal means your payments won’t change, even if interest rates rise. This can make budgeting easier and protect you from future rate increases during the term of your finance agreement.
Look for shorter finance terms – Choosing a shorter term for your finance deal could reduce the total interest paid. While monthly payments may be higher, you’re more likely to save money overall by paying less interest. It’s worth considering if you can afford the higher payments.
Improve your credit score – A higher credit score could help you get lower interest rates. Paying bills on time, reducing credit card balances, and checking your credit report for errors can help. Better rates can reduce the cost of your finance deal, which could help to offset the impact of rising interest rates.
However, if you don’t have a good credit score, we could still help. We work with specialised lenders who offer bad credit car finance and could still be able to find you a deal. Credit is subject to status.
The takeaway
Inflation can drive up the cost of car finance by raising interest rates, making cars more expensive, and causing lenders to tighten their criteria. While there isn’t anything you can do to control inflation, understanding it could be key to finding the best deal for you. This might mean getting a shorter loan or a fixed-rate finance deal to limit the interest you pay.
As always, make sure to read the terms of any finance agreement carefully and seek independent financial advice if needed.
Note: The information in this guide is for general purposes only and does not constitute financial advice. For advice tailored to your individual circumstances, consider speaking to a qualified financial advisor.