On Thursday 5 July 2007 something happened that we haven’t seen in the decade since. The Bank of England’s Monetary Policy Committee (MPC) voted to raise interest rates. An increase of 0.25% to the Bank Rate to 5.75%.
Since then, interest rates have been cut ten times, most recently from 0.50% to 0.25% in August 2016. Recently though, there have been signs that the MPC may be ready to raise the Bank Rate once more. So what’s behind this thinking, and how likely are we to see rates rise for the first time in a decade?
Why it Matters
Interest rates are the classic double-edged sword. If you are trying to save, then generally you will want rates to be higher as it means that you will earn more interest on your savings. If you are trying to borrow money you will want rates to be as low as possible as it means that the cost of borrowing (i.e. the interest that you pay on your loan) will be lower.
In the case of a mortgage, even a relatively small change in interest rates can have a significant effect on your repayments because the sum of money being borrowed is typically very large.
Why Have Interest Rates Remained Low?
In 2007, as the effects of the economic downturn started to take hold, the Bank sought to lower interest rates. The thinking was simple. Low rates discourage saving and encourage spending, so by lowering interest rates they would encourage more economic activity in the country.
Looking specifically at the housing market, lower rates helped achieve two main aims. For homeowners, it meant that their mortgage repayments were kept low. This was especially important at a time when unemployment was rising as it helped to keep the number of repossessions lower.
Secondly, by keeping interest rates low it made it more affordable for people to buy a property. Although the large deposits that were needed to secure a mortgage stifled buyer activity to a large extent, by keeping interest rates at a low level the decline in the number of properties selling was mitigated somewhat.
The Case for an Increase in Interest Rates
Following the dark days of the ‘credit crunch’, the economy has improved over the last two or three years. Employment has generally been rising, the housing market has been fairly robust and consumer confidence has improved.
Perhaps most importantly, inflation has started to inch upwards and has consistently been above the Bank of England’s target of 2% of late. As a result the case for the Bank to raise interest rates and rein in inflation has gained strength. At the MPC meeting this June, three members of the eight person committee voted to increase rates. The vote took many observers by surprise as it represented the highest number of members voting for a rise since 2011.
Of course just as people were starting to brace themselves for a rate rise, we received news earlier this week that inflation had unexpectedly fallen, leading to speculation that the prospect of an interest rate in the near future was now dead.
What Should Homebuyers Make of it?
With inflation having fallen back last month and with disposable income being squeezed by low wage growth, the prospect of a rise in interest rates in the short-term is remote. Even when interest rates do rise, any increase is likely to be minimal – all three MPC members who voted for an increase were proposing a rise of 0.25%.
That having been said, if you are thinking about buying a property in the near future it is important to bear in mind that, even if interest rates don’t rise soon, over the long term they can really only head in one direction. The current Bank Rate of 0.25% is way below historical norms so when you’re looking to arrange a mortgage it’s important to think how your repayments would be affected over the longer term if and when rates start to increase.
By stress-testing your mortgage to ensure that repayments will remain affordable even if your rate were to rise by 2 or 3% you will go a long way to helping ensure you aren’t caught out if and when rates do begin to increase.
If you are thinking of buying a property and have any questions, get in touch with Warners today on 0131 667 0232 and one of our team will be delighted to help you.