No rates rise for the last decade but don’t rule it out

David Marshall on the economics of payments

On 5 July, 2007 something happened that we haven’t seen over a decade since.

The Bank of England’s Monetary Policy Committee (MPC) voted to raise interest rates.

An increase of 0.25 per cent took the Bank Rate to 5.75 per cent.

Since then, interest rates have been cut ten times, most recently from 0.50 per cent to 0.25 per cent in August 2016. However, there have been signs in the past few weeks that the MPC may be ready to raise the bank rate once more.

Interest rates are the classic double-edged sword. Savers want rates high to earn more interest on savings while borrowers want rates as low as possible.

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 large.

In 2007, as the effects of the economic downturn started to take hold, the Bank of England sought to lower interest rates.

The thinking was simple, low rates discourage saving and encourage spending, so by lowering interest rates it 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 repossessions down.

Secondly, low interest rates made it more affordable for people to buy a property.

Although the large deposits that were needed to secure a mortgage stifled buyer activity, by keeping interest rates at a low level, the decline in the number of properties selling was mitigated.

Following the “credit crunch”, the economy has improved. Employment has been rising, the housing market has been robust and consumer confidence has improved.

Perhaps most importantly, inflation has started to inch upwards and of late has consistently been above the Bank of England’s target of 2 per cent.

As a result the case to raise interest rates and rein in inflation has gained strength.

At the MPC meeting in 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 that inflation had unexpectedly fallen. And last week we learned the MPC voted 6-2 in favour of keeping the base rate at 0.25 per cent.

This and the squeeze on disposable income means the prospect of a rise in interest rates in the shortterm, at least, is remote.

But if you are thinking about buying a property it is important to bear in mind that over the long term rates can really only head in one direction.

The current Bank Rate of 0.25 per cent is way below historical norms so 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 per cent, you will go a long way to helping ensure you aren’t caught out when rates do begin to increase.