What is the Bank Rate?
The Bank of England raised interest rates to 0.75% this week, the third increase in four months, in an effort to combat the higher than expected rate of inflation. The Bank Rate (commonly referred to as the Bank of England base rate) is the interest rate at which the Bank of England pays commercial banks for holding money with them and is set by the Monetary Policy Committee (MPC). This is one of a number of tools used by the MPC to keep inflation close to the target set by the government (currently 2%) and promote stable and sustainable economic growth.
A change in bank rate is usually passed on by commercial banks to consumers by way of interest rate changes to products, such as mortgages or savings accounts. If interest rates are higher, consumers are more likely to save rather than spend as returns on savings are higher. Higher interest rates can also lead to the increase in the cost of borrowing which further reduces consumer spending.
How might the increase affect mortgage repayment or affordability?
The increase in bank rate could result in a significant change to a consumer’s debt repayments with more than 70% of household borrowing attributable to mortgages. However, the effect that the increase would have on mortgages depends on what type of mortgage is held.
Variable rate or tracking mortgages are charged at a certain percentage above or below the bank rate, therefore, a rise in bank rate will cause a direct increase in the monthly repayments due under these products. Although, lenders are often prepared to cushion consumers from the full impact of the increase in bank rate in an effort to remain competitive. A fixed rate mortgage is a product where the interest rate charged on the mortgage is fixed for a certain period. Homeowners with a fixed rate mortgage will not feel the effects of a rise in bank rate until after their fixed rate term expires and the interest rate charged changes to their lender’s variable rate.
There is a growing trend towards consumers opting for the certainty of fixed rate mortgages with 94% of new mortgages in 2017 being charged on a fixed rate. This means the effect of the increase in bank rate on consumers in relation to mortgage repayments will be softened and at the very least delayed until their fixed rate expires.
A rise in bank rate and subsequently mortgage rates can cause a fall in demand for property because borrowing becomes more expensive, with Savills estimating that a 1% rise in bank rate could add around £10 billion to UK mortgage debt, an increase of around £930 per year to the average mortgage. The fall in demand caused by the higher rates could cause a subsequent decrease in house prices.
How might the increase affect house prices?
In theory, the increase in bank rate should result in a decrease in demand for residential property and, therefore, a subsequent decrease in property prices. However, in practice there are many other factors that impact property prices including the balance between consumer demand and housing supply.
Under supply of housing in the UK has been a driving force for rising property prices in recent years. The UK has consistently failed to meet the Government’s build target of 300,000 new houses per year and, in fact, has not yet reached 200,000 per year. In spite of demand consistently outpacing supply, the Bank of England remains concerned about the effect of a sustained increase in bank rate on property prices, predicting that a sustained 1% rise in bank rate could cause house prices to plummet by one fifth.
How might the increase affect developers?
Most predict that a rise in bank rate is unlikely to deter prospective buyers if you are a developer operating in an area with sufficient demand for property such as Cornwall, especially considering current levels of low unemployment and the extension to the Help to Buy Scheme. However, a rise in bank rate is likely to have an effect on the developer’s finances, with interest charged on borrowing required to fund construction directly linked to the bank rate. Some hope a rise in bank rate could lead to the increase in the value of the pound which could negate the effect of increased borrowing costs as the cost of raw materials fall could.
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