The negative interest rate debate
Talk of a negative interest rate has bubbled along hand in hand with the pandemic, but it isn’t always clear how, and why, this may come to pass. Also, and crucially from our perspective what impact would that have on the best mortgage rates? We look at some of these themes and try to gauge what the likely impacts are:
When did this debate get serious?
Back in October 2020, the Bank of England wrote to major financial institutions (in a letter you can read here if you are so inclined) to ask them how they would manage a negative interest rate move. In the letter, signed by Sam Woods, Deputy Governor and CEO of the Prudential Regulation Authority, said: “For a negative bank rate to be effective as a policy tool, the financial sector – as the key transmission mechanism of monetary policy – would need to be operationally ready to implement it in a way that does not adversely affect the safety and soundness of firms.” The letter is not a statement of intent and the prospect of a negative rate remains hypothetical – “should the MPC decide it was appropriate” – but it has brought the topic back into the spotlight.
Why is a negative interest rate being considered?
With the economy in such a precarious state after various lockdowns and forced closing of businesses, the idea behind this is that money will move out of the system in the form of loans and mortgages. As if rates went negative firms stockpiling cash (such as investors, banks, large companies etc) would effectively be charged for holding their money on deposit. This would be force them, or at least strongly encourage them, to find a better use for it.
If this happened, what would happen to my mortgage?
Theoretically, if the rate on your mortgage went below zero, the bank would have to pay you! This does actually happen in some European countries and is known as “reverse-charging”, where you make your normal monthly payment, but the loan reduces down much faster and you pay back less than you borrowed. That may seem a very odd arrangement but the lender must consider what other choices it has with its funds so this must be an attractive alternative compared to the charge of the money simply sitting as cash. However, in the UK, Banks wised up to this in 2008-09 when the Bank of England cut rates down to 0.5%. Some banks were offering tracker mortgages at margins greater than 0.5% below the UK Base rate, so “reverse-charging” did happen in some instances. Due to this experience nearly all lenders now have a “collar” on the mortgages they offer, which means that even if the Bank of England reduces rates again, your mortgage rate will not go down below a set level (and a key consideration on what product to choose in this environment).
How likely is this to happen?
It is starting to look increasingly unlikely. Most money markets have not priced this in as a plausible option, especially since Brexit was resolved and we didn’t crash out of the EU in a ‘no deal’ scenario. As with everything Covid related, you just can’t rule out anything at the moment. It has been such a rollercoaster and there will be a few more thrills and spills yet we are sure, so we look at this firmly through the prism of giving advice to get the best mortgage rates possible, and from that perspective, even if it did happen, it won’t materially affect the products on offer. Lenders are offering mortgages with quite a high margin at present in some areas. For example, if you have just a 10% deposit you will be looking at a mortgage rate of over 3%. Historically that is still very low, but compared to a base rate of 0.1% that is an extremely high margin, the likes of which we haven’t seen since the dark days of 2008-09.
As this highlights, getting professional, independent, mortgage advice has never been so important. We would be delighted to help on any of your mortgage needs and help you navigate the choppy waters we find ourselves in. you can find details of our team here.
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