Yesterday’s 0.25% interest rate increase, to 0.5%, by the Bank of England (BoE) is likely to have a modest effect on the mortgage market, according to the CEO of Property Frontiers, Ray Withers.
Withers points out that the interest rate increase is a signal that the economy is performing better than expected and that monetary policy is returning to business as usual following the EU referendum.
That wider pattern is good news for the housing market overall, and the fundamental imbalance of supply and demand points to prices remaining resilient, in spite of yesterday’s interest rate increase.
Although it is true that this is the first time that the base rate has been lifted in a decade, to put things into perspective, the rate is only returning to 0.5% – the same level it had been at for almost a decade, from the 2009 financial crisis up until the Brexit result.
Prior to the financial crisis, interest rates were above 5%, having risen steadily since 2003, and this did little to slow house price growth at the time. The BoE has indicated that future rate rises will be extremely gradual – perhaps another 0.25% in a year’s time and another a year after that.
Across the pond, interest rates have been growing at a similarly glacial pace, and the end of quantitative easing at the European Central Bank is expected to have similar consequences. Yesterday’s increase is not a circumstance peculiar to Britain – it is part of a very gradual shift in the world economy, as it emerges from the lingering effects of the financial crisis.
The drivers of that shift are all positive for house prices in the long-term, Withers believes, outweighing the impact of marginally more expensive mortgages in the short-term.
Two numbers are often quoted as the causes of an interest rate increase. The first is that GDP grew by 0.4% in the last quarter – above expectations and suggesting to some commentators that the original cut (in anticipation of a referendum-induced slowdown that has not materialised) was unnecessary in the first place. This bodes well for the employment market, Withers notes.
The second is that inflation now sits at 3% – above the BoE’s 2% target, which, in theory, means that the economy is overheating and needs to be tempered. Raising interest rates does this by making saving slightly more attractive than it was before, in comparison with spending.
The slightly higher cost of debt, therefore, is offset by higher interest rates on savings, tipping the balance in favour of thriftier households. But savings accounts will still be offering no more than 1.5% – nowhere near the returns available to investors in the private rental sector. Overall, monetary policy still overwhelmingly favours borrowers, including mortgage borrowers, over savers.
Around 60% of mortgages are on fixed rates, avoiding any effect whatsoever for the remainder of the fixed term, while the other 40% may be modestly affected. On a typical £150,000 loan, investors will be exposed to around £15 per month of extra mortgage costs – hardly enough to discourage purchases, and a relatively insignificant dent to investor yields.
Moody’s credit rating agency responded to the interest rate increase: “House price growth and the market’s overall stability have been incredibly resilient, despite the EU vote and a snap General Election. A few quid added to the average mortgage repayment will not deter this growth in the medium to long-term.”
Indeed, the 0.25% rise is a small incremental change. It was expected and is furthermore necessary for the wider economy, which is a much more significant driver of the housing market overall.
Mortgage costs now rising a shade above historic lows will do little to dent the UK’s fundamentals, which still exhibit robust demand – particularly given the circumstances – and extremely limited supply.
Especially in regional towns beyond the mainstream, with high yields and no danger of oversupply, excellent returns and solid growth potential will remain for the foreseeable future.
Nevertheless, the Resolution Foundation claims that young and middle income mortgage owners will face the biggest cost increases following yesterday’s news.
However, the Foundation’s analysis found that the combination of falling homeownership, a declining share of homeowners with mortgages, and dropping share of mortgagors on variable rates mean that barely one in ten (11%) households are likely to be affected in the short-term by the interest rate increase.
Those aged 45-54 (19%), and those living in the East and West Midlands (14% and 13% respectively) are most likely to be on a variable rate mortgage and therefore face overnight cost increases.
Looking at the scale of potential growth in mortgage costs, the Foundation found that the average increase for variable rate mortgage holders is £6.40 per month (or 1.3%).
Although there are fewer of them, young variable rate mortgagors (aged 18-24) will face the greatest cost increases (2.6%), along with those on middle incomes (2%) and those in the South West (2.5%).
Looking ahead to a future scenario, in which mortgage rates rise by 1%, the Foundation’s research shows that young households with mortgages would face the biggest cost rises (8% or £31.40 a month), along with middle income mortgage holders (7.9%).
Matt Whittaker, the Chief Economist at the Resolution Foundation, comments: “The big changes that have taken place in our housing market over the last decade mean that barely one in ten families are at risk of seeing the overnight effect of today’s interest rate decision through higher mortgage costs.
“For most homeowners, the effect of today’s rise will be modest or negligible, though younger homeowners and those on middle incomes will face the biggest effects.”
He adds: “Should interest rates continue to rise over the coming years, the effect on mortgage holders will be far more significant. But prospects for future rises remain highly uncertain, particularly given the lack of firm evidence that wages are rising sustainably.”