How high will mortgage rates go?
It's well known that the mini-budget shook up the British economy. The pound hit the floor and interest rates went through the roof, and we're still experiencing the effect on our mortgages today. So just how high will mortgage rates go, and what's going to happen next?
Imagine it’s 23 September 2022. Prime Minister Liz Truss wakes up in a bullish mood, puts on her smartest outfit, and strides confidently down the stairs of No.10 for brekkie. She slurps down a cup of coffee, munches two slices of granary toast, and prepares for the biggest day of her career. Her confidence grows when she receives a WhatsApp message from Chancellor Kwasi Kwarteng that simply contains an ‘ok’ emoji. “He’s got this” she mutters to herself, “this mini-budget’s going to be a triumph”.
One month later, with the pound on the floor and interest rates through the roof, her political career was in tatters. Her growth plan, which involved the biggest unfunded tax cuts in 50 years, had been savaged by economists, criticised by the IMF, and had prompted what one journalist described as “probably the biggest U-turn in British economic history”.
Mortgage providers predictably ran for cover. Big names like Santander, HSBC and Nationwide all temporarily pulled products amidst the economic chaos. Nobody knew where it was going to end. And the property sector held its breath…
Enter The Bank of England
The BoE immediately took action to calm the markets like a teacher intervening in a schoolyard riot. Even though they’d already raised the base rate from 1.75% to 2.25% the day before the mini-budget, they were forced to raise it again to 3% in November - the biggest single rise since 1989 when Milli Vanilli were miming their way to number one. A further rise to 3.5% followed in December as the country battled rising inflation.
With interest rates doubling in just four months, agents everywhere feared the worst. And even though a new chancellor managed to calm things down in the autumn, and keep a steady hand on the tiller in March’s budget, interest rates have continued to edge upwards since: just two weeks ago, the base rate was increased to 4.25%.
So how high could it eventually go? And do we need to worry?
What history teaches us
The first thing to do is take a deep breath. Yes, 4.25% is the highest base rate for 14 years. But before we all start predicting mass repossessions, let’s put recent events into context: 4.25% might be high by recent standards but historically it’s pretty, well, standard. It only seems high because we’ve enjoyed record low base rates since the global financial crash of 2008.
Interest rates hovered between 4-6% for most of the noughties. And they were even higher before that - under Margaret Thatcher, the base rate ranged between 8 and 15%. What we’re seeing now, therefore, is actually a return to normality.
Consequently, rather than panicking, it’s probably just time to accept that the days of cheap mortgages are over. Borrowers did extremely well between 2009 and 2021 but all good things must come to an end.
So what’s next?
Most analysts believe that the base rate will peak at around 4.6% this summer before slowly edging downwards over the next few years. This is good news. The outlook was much stormier in the weeks following Kwarteng’s hopeful WhatsApp message to his boss. In fact, last year, some feared the base rate could rise as high as 6%. Instead, rates should stabilise somewhere between 3-4%.
The caveat, however, is that this very much depends on inflation. The Bank of England expected this to dip rapidly this year but it’s remaining worryingly high. In fact, it even increased slightly in February. The good news, though, is that experts still expect inflation to fall to about 3% in 2024 and then 1% (finally hitting the target of 2%) in 2025. What’s more, the BoE won’t want to keep the base rate high for too long in case this restricts growth.
There’s also recent speculation that the base rate could be cut earlier and faster than predicted. Silvana Tenreyro, one of the BoE’s senior policymakers, has said that a sharp decline in global energy prices could see inflation plummet in the coming months - thus presenting an opportunity to slash the base rate. Not doing so could even lead to an inflation undershoot.
What does all this mean for mortgages?
Because lenders obviously adjust their rates relative to the base, homeowners and potential buyers can expect the cost of borrowing to stabilise over the next few years, too. The average for a 2-year fixed mortgage is currently at 5.85%. And the best rates available - typically for fixed rate mortgages with 60% loan-to-value - are just over 4%. Therefore, because lenders tend to set their rates slightly higher than the base, we can probably expect typical fixed rates to settle somewhere between 3-5%. Tracker rates should remain slightly lower.
It’s important to remember, however, that economists are awfully good at analysing the past but not particularly adept at predicting the future; therefore this picture might change. It’s amazing how the best mortgage deals suddenly disappear when lenders get a whiff of another base-rate hike.
What’s more, many homeowners are already suffering after the rises announced so far. Tracker mortgage customers are already having their pips squeaked. And those on fixed rates - which accounts for 75% of all mortgage payers - will be waiting nervously to find out how much extra they’ll need to pay when it’s time to refinance. According to the BBC, an estimated 1.8 million people this year will have to find hundreds of extra pounds per month. Gulp.
What property insiders think…
Opinion is split as to whether the sector is well placed to weather this storm. Those fearing the worst argue that the UK’s inflation is still the worst in the G7. Therefore, they don’t expect the Bank of England (whose main priority is to keep prices stable) to start reducing the base rate soon. These pessimists point to the thousands of people who are already being forced to sell up because they can’t afford existing mortgage rates. One report claims that 75,000 people are already in arrears.
Thankfully, however, there are also reasons to be optimistic: mortgages have stabilised, the UK is no longer expecting a recession this year, and although demand for homes is lower than in 2022, lenders are still lending and sales are still being agreed. Meanwhile, unemployment levels are mercifully low. And it’s usually high unemployment that triggers mass repossessions. Phew.
Stay positive
Consequently, although the economy isn’t exactly going gangbusters at the mo, things could be much, much worse. Yes, the rise in interest rates is bound to slow the market down, and the prevalence of high loan-to-value mortgages isn’t going to help, but we can be hopeful that interest rates will come down before a back-breaking number of fixed periods come to an end.
Therefore, it’s important not to buy into the property crash headlines. The market is based on sentiment and negativity can be infectious - so please mask your nervousness and stay upbeat if and when the BoE raises the base rate again.
What’s more, although mortgage approvals were down again to just under 40,000 in January, the market continues to be remarkably resilient: last month’s figures showed that prices had actually risen by an average of £3,000 despite the ubiquitous doom and gloom.
So hang in there, folks. Interest rates should start moving in the right direction soon. And they could do so even faster than a Liz Truss U-turn.