Your guide to surviving a mortgage rates rise

Increase could add hundreds of dollars in costs to many homes

Could you handle the interest payments on your mortgage increasing by 30 per cent?

That kind of rise could be on the cards if rates follow their forecast path upwards over the next year. We worry about the price of petrol, milk and avocados but if you own a house then there is nothing that compares with the impact of rising rates on your family budget.

After years of record low rates — held down by central banks to keep the full horrors of the global financial crisis at bay — all the smart money is on them heading up. That has the potential to add hundreds of dollars in costs to many households.

In its latest quarterly outlook, the NZ Institute of Economic Research (NZIER) picks rates are likely to rise over the coming year and calculates that for many homeowners a rise of just 1.5 percentage points in retail rates would be enough to lift interest payments by 30 per cent.

So how serious is the outlook? With some help from NZIER principal economist Christina Leung, here’s a look at what’s behind the cost of your mortgage payments.

RESERVE BANK OFFICIAL CASH

RATE (OCR): This is the interest rate set by the Reserve Bank of New Zealand. It is influential on mortgage rates as most of the money lent by banks is borrowed locally. The good news is it is on hold at 1.75 per cent and expected to stay there for about another year. But the next move is expected to be up. The Reserve Bank’s own forecasts see the OCR rising by about half a per cent over the next two years.

US FEDERAL RESERVE FUNDS

RATE: Unfortunately, local banks still go offshore for about one-quarter of their funding. That means what happens to international rates also has a big impact on your mortgage The news is not as good for homeowners. The US central bank — the Federal Reserve — is hiking rates. So far the Fed has lifted rates six times since late 2016 — from and unprecedented low near zero. There is intense speculation about whether the Fed will hike two or three more times this year. Either way it is expected to take the official rate from 1.75 per cent now to 3 per cent by 2020. Such is the influence of the US economy, that’s going to put pressure on mortgage holders the world over.

GLOBAL RISK: Another factor in the local cost of borrowing is the level of risk and fear in global markets. When the stock market is booming and politics are predictable, lenders are relaxed. The margins between central bank (wholesale rates) and retail rates are lower, so borrowing is cheaper. When things turn to custard — as they did in the GFC — lenders get risk-averse and the margins widen. That raises the cost of borrowing unless central banks cut their rates sharply. In fact, Leung says, since the GFC, interbank lending margins have had a much bigger influence on what we pay here in New Zealand. In theory, the global economy is supposed to be in good shape right now with economic growth in all the major regions. But political crises and fear of what will happen as central banks hike rates are driving increased volatility. Basically, the more hair-raising the world news gets (out of the US and Europe in particular) the worse that is for borrowers.

LOCAL COMPETITION: Finally, there is the downward pressure of local competition in the banking sector. For years the local banks were competing to grow their loan books. Since we passed the peak of the property boom it is fair to say they have become more cautious about lending. That has coincided with tougher Reserve Bank lending rules. Having said that, borrowers still benefit from competition when banks offer special rates or deals for certain fixed terms. For example, we saw some shorter-term local rates fall slightly at the start of the year.

When things turn to custard — as they did in the GFC — lenders get riskaverse