Given the current eddies and swirls in the mortgage market, it is difficult to tell whether any dampening effect the Mortgage Market Review (MMR) may have had has already lifted, or whether we are simply seeing the impact of the latest moves by the Bank of England. Figures from the Council of Mortgage Lenders (CML) show that the market may have recovered from April’s introduction of the MMR with the number of approvals rising 8 per cent from 100,451 in May to 108,857 in June. These were worth a total of £16.4bn, an increase of 15 per cent compared with June 2013.
But just as the market is showing signs of uplift, the decision by the Bank of England’s Financial Policy Committee (FPC) to introduce a loan to income (LTI) cap is bound to have an additional dampening impact. In the last week of June the FPC specified that no more than 15 per cent of individual lenders’ new loans should be at a multiple of
4.5 times income or higher. It also said that lenders must stress test borrowers’ ability to pay as if base rate is at least 3 per cent higher in the first five years of the loan. The CML suggests that these decisions may shrink overall risk appetite and that appears to have been borne out by events.
The FPC’s measures did not have to be introduced until October 2014 and at present they are non-binding. However, several lenders, including Nationwide, Santander and RBS, have already adjusted their loan to income (LTI) levels and stress rates in response, with immediate effect. So now, it is not just about checking borrowers’ affordability, but also ensuring that, overall, lenders comply with the LTI cap percentages.
First step
The International Monetary Fund (IMF) has produced a report on the UK’s housing market describing the LTI cap as a helpful first step towards addressing excessive household debt. However, it says that, should these measures prove inadequate, they could be strengthened, for example by reducing the percentage of high LTIs allowed further or reducing the LTI cap. If those failed, it said, then interest rate rises should be considered.
The report stresses that macro-prudential – rather than monetary policy tightening – tools should be the first line of defence against the financial risks posed by the housing market. It also says that the main objective of policy should be to address systemic financial risks such as the vulnerability of households to income and interest rate shocks, rather than to dampen house price growth per se. Interest rate rises, it says, are a blunt tool. It has also joined the chorus of voices pointing to the shortage of housing supply helping to fuel house price inflation in many parts of the UK and especially in London. It says that the shortage is also fuelling borrowers’ willingness to overstretch themselves, leaving them vulnerable to those same shocks. The low interest rate environment simply adds to this, lulling borrowers into a false sense of security over the affordability of their loans.
Statistical fog
In the face of such fears, however, the CML remains cautiously optimistic. It admits it is difficult to gauge the short-term direction for house-buying activity and mortgage lending, especially since interest rate rises seem imminent. However, it says that while implementation of the MMR has ‘temporarily distorted’ some indicators of activity over recent months, as the ‘statistical fog’ lifts underlying levels of demand will remain strong in the short term.
It suggests that as house price inflation outstrips income growth and interest rate rises are predicted, household demand must begin to falter due to affordability issues, but it does not see this happening to any great extent in 2014.
The CML also points to the strong economic fundamentals that continue to underpin housing market sentiment and activity – economic growth, rising employment and better mortgage credit that led to higher mortgage activity towards the end of 2013 and at the beginning of 2014.
As a result it has revised upwards its estimates for 2014 and 2015. Table 1 shows it predicting that in 2014 gross lending will rise above £200bn for the first time since 2008. Also, despite the affordability pressures, the effect of the MMR and other measures and the prospect of rising interest rates, which will all have a subduing effect on housing market activity, it also expects the number of transactions to rise above its previous estimates.
It believes that in the event of an increase in interest rates, the favourable job market will enable most households to cope well with what it describes as ‘initial gentle’ rate rises.
