This is Home Front with Vicky Spratt, a subscriber-only newsletter from i. If you’d like to get this direct to your inbox, every single week, you can sign up here.
Forgive me, for I am about to ask you to do something unpleasant.
Cast your mind back to last autumn.
Pumpkin spiced lattes, turning leaves and…Liz Truss and Kwasi Kwarteng’s so-called “mini-Budget” which spelled disaster and near collapse for the Government bond market which underpins Britain’s borrowing, pensions, and mortgages.
You may remember that the former prime minister’s ill-fated economic plan of unfunded tax cuts spooked financial markets and caused mortgage rates to surge.
As they did, you may also remember that experts – such as the housing market analyst Neal Hudson – warned that we would be in big trouble if rates passed 6 per cent.
Mortgage rates of 6 per cent or more were widely considered to be a tipping point for the housing market – for the affordability of homes and of mortgage repayments – after which arrears could rise and house prices would come down.
Well, the conditions of the current mortgage rates crisis are different to the chaos caused by the “mini-Budget” in that they are not rising because of the economic illiteracy of a politician but, instead, because the Bank of England is raising their base rate in an attempt to control inflation.
But, nonetheless, the average rate for a two-year fix has hit 6 per cent and it is still very much a tipping point.
The independent think tank, the Resolution Foundation, thinks that they will soon hit 6.25 per cent.
Why is this a tipping point?
In short, unless house prices fall drastically (which could yet happen), higher borrowing costs will make it harder for people to get on the housing ladder which will slow the housing market down dramatically.
Higher remortgage rates, as I wrote over the weekend, will also crunch the finances of landlords and people with mortgages.
Landlords could pass those costs onto their tenants which could see rents – which are already at historic highs – spiral even more. People with mortgages could struggle to make their monthly repayments and, if they don’t, they could still have to drastically cut back on other essentials or, even, get into debt to make ends meet.
Since the global financial crisis of 2008, Britain’s housing market has experienced epic house-price inflation which peaked during the pandemic between 2020 and 2022.
Rising house prices were facilitated by one thing: cheap credit and ultra-low interest rates.
We don’t yet know how embedded inflation is in Britain’s economy or how longer higher rates will be with us for.
But we do know this – by the time house prices hit their peak in 2022, homes were more unaffordable to buy in relation to people’s incomes than at any point in history. That was before the mortgage rates crisis, and though prices have fallen slightly they remain high, and rising rates have made them a whole lot more unaffordable.
Roger Bootle is one of Britain’s best-known economists. He is the chairman of Capital Economics and was a leading voice in warning that house prices were too high before the 2008 global financial crisis.
Last week, he told me that “the average size of mortgages in relation to average earnings would be two times what it was 25 years or so ago, so that could double the impact of mortgages rates rising”.
That makes this mortgage rates crunch – where the average mortgage will increase by £2,900 a year in the next year – worse than the 80s or the 90s because people borrow more in relation to their income now.
Bootle warned that rate rises are “going to cause serious pain because the level of mortgages is so high”.
“We’ve had bigger rates increases before but with a lower level of indebtedness – that’s the real killer,” he added.
We are in slightly unchartered territory because house prices have never, ever been so high in relation to earnings at a time when inflation is bad.
We also won’t know how severe the impact of rising rates is on the housing market until next year because it takes time for rates to feed into remortgage and land registry statistics.
The Bank of England is playing hardball – prioritising interest rate hikes in the firm belief that inflation can be eradicated even though are very real reasons for it (poor harvests, the war in Ukraine, the post-pandemic economy) – and hoping that increasing interest rates will do the job. But they walk a fine line between tackling inflation and pushing people into the red – as the Resolution Foundation reported earlier this year, people of all ages are turning to borrowing in order to meet their outgoings.
In the words of former Prime Minister John Major, “if it’s not hurting, it’s not working”. It is hurting already but more pain could be felt in the form of less affordable mortgages and falling house prices if rates go higher.
All of this could pass quickly, perhaps. But that’s not what economic forecasts suggest. And, indeed, inflation has been higher for longer than anyone – including the Prime Minister Rishi Sunak who promised to half the inflation rate by the end of this year – said it would be.
For now, the message from the government and the Bank of England is clear: they’re prepared to sacrifice the housing market to bring inflation down.
Key Housing
There is a lot of debate about whether or not the government should step in and offer support for people who are struggling to pay their mortgages.
So, now feels like a good time to flag that some support is already available – it’s called Support for Mortgage Interest Relief (SMI).
SMI was amended in April and is now available to homeowners on universal credit regardless of their employment status, after a three month wait. Previously, support was only available to unemployed claimants, and there was a nine-month wait.
However, SMI is not a gift from the Government. It is a loan, paid back with interest (currently 3.03 per cent).
According to the latest data, just 12,000 households were receiving SMI.
A larger package of support has been ruled out by the Chancellor Jeremy Hunt even though the Housing Secretary Michael Gove has said it is “under review”.
Eventually, the Government may have to step in to stimulate the housing market for all of the reasons I’ve outlined above but, for now, doing so would directly contradict the point of increasing interest rates by pumping money into the economy at a time when the Bank of England is trying to restrict people’s borrowing and spending power.
There’s precedent for this.
Mortgage interest relief (Miras) was introduced in 1983 to encourage homeownership before it was withdrawn in 2000 by former Labour prime minister Gordon Brown.
Ask me anything
Thank you very much for all of your questions.
This week a reader has been in touch through Instagram and asked a question that I imagine is on many people’s minds:
“What if the Bank of England has their foot on the wrong peddle? Are rate rises really the answer?”
Well, the Bank of England certainly thinks that higher rates are the right course of action but as I’ve explained above, they are not without consequence.
Another side-effect of rising interest rates is that it’s more expensive for developers – including social housing associations – to build new homes and Britain urgently needs new homes.
I found this article in the Guardian written by the American economist Joseph Stiglitz interesting.
He notes that inflation is largely caused by supply problems, particularly in the housing market and that rising rates are presented as a cure for inflation when, in fact, they could make it harder to address those supply issues by building new homes.
Food for thought.
Ask your question for next week via Twitter @Victoria_Spratt, Instagram @vicky.spratt or email vicky.spratt@inews.co.uk
Vicky’s pick
I’m bingeing Queen Charlotte – the Bridgerton prequel – on Netflix at the moment because it’s providing me with some much-needed escapism from the economic crisis we are currently living through.
Perhaps you’ll enjoy it too!
This is Home Front with Vicky Spratt, a subscriber-only newsletter from i. If you’d like to get this direct to your inbox, every single week, you can sign up here.
