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Assessing The Impact Of Rising Interest Rates On Mortgagors' Living Standards

17th October 2022

R I P low interest rates: the cost of borrowing is seriously on the rise. Inflationary pressures in the economy have been pushing interest rates up for some time. Events since the Government's mini-budget in September increased market expectations of how high interest rates will rise, and brought forward the date at which they are expected to peak.

The effect of higher rates on living standards will be long term and diffuse (and, of course, will benefit some). But the 1.2 million households on flexible-rate mortgages in Britain will feel an immediate effect, and their ranks will be steadily swollen by the 6 million-plus additional households currently buying their home on a fixed-rate deal.

The future is hugely uncertain but as of 12 October 2022, we forecast that over 5 million currently mortgaged families - close to one-fifth of all households in Britain today - will be spending more on their housing costs by the end of 2024 than they were in Q3 2022, totalling more than £26 billion overall. In Q4 2024.

For example, the average mortgagor will be paying £3,500 more a year than they were in Q3 2022. But the average hides much variation: we estimate the average London mortgagor will be paying £5,500 more in annual costs by the end of 2024, for example, almost two-and-a-half times more than their North East peers.

For some, the impact of higher interest rates is significant and immediate: we estimate that, by the end of 2024, more than 1.8 million mortgaged households will see housing costs absorb at least 10 per cent more of their household income than in Q3 2022.

By the end of our forecast period (Q1 2027), practically no mortgaged household will be untouched by higher rates. This spells not just significant pain for households, but potentially for the Government too.

Mortgaged households may make up a smaller share of the electorate today than they did in the past, but they remain a key constituency for the Conservatives, and an especially important one in vulnerable Red Wall seats.

Low interest rates are no more. After more than a decade of savers bemoaning minimal returns and borrowers treating low rates as the norm, the cost of borrowing is on the up. Inflationary pressures have been building in the economy for more than a year, and have accelerated sharply as energy costs rose in response to the war in Ukraine. As a result, the Bank of England's Monetary Policy Committee (MPC) has raised Bank Rate each and every time it has met over the past ten months - a pattern that broadly reflects the approach in other advanced economies.

More recently, however, Government actions have directly raised expectations of how quickly interest rates will rise and how high their peak will be. Even accounting for recent U-turns, it still intends to make unfunded tax cuts of £25 billion a year by 2026-27, and to spend £60 billion over the next six months supporting households and businesses with escalating energy costs.[2] It is now all but inevitable that the MPC will raise Bank Rate more sharply than previously anticipated at its 3 November meeting.

The move to a higher interest rate world, after more than a decade of being used to near zero rates, is a big change for the UK economy and households. After hovering around 2 per cent for several years, mortgage rates are on the rise and in this Spotlight we assess how these could feed through to existing mortgagor households in the coming months and years. Of course, the impact depends on the actual trajectory that mortgage rates take in both the short- and medium-term, and in Figure 1 we present our forecast of the rates for various mortgage types used in our subsequent analysis (we also show short-term historical rates to bring home the scale of the increases that mortgagors look set to face).

Rising rates will hit mortgagors' living standards across the board
The effect of higher interest rates is significant and immediate. Figure 6 proves this point by showing the estimated cash increase in household mortgage costs over the next four years as a share of net household income (income forecasts are derived from previous Resolution Foundation research). We estimate that one-quarter of all mortgaged households (around 1.8 million) will have lost more than 10 per cent of their household income to higher housing costs by Q4 2024. At the same point in time, the typical mortgagor will be spending an estimated 4.6 per cent more of their income on their housing costs than our benchmark quarter. And by the end of our forecast period, practically no mortgaged household will be untouched by higher rates.

Read the full article from the Resolution Foundation HERE