Bank warns of financial risk to millions if rates rise to 3%

Friday, 20 December 2013 02:24

The Bank of England has issued a warning that almost a third of the 11 million households with a mortgage will have to cut their spending or take on extra work if the base rate rises to three per cent.

The central bank said that if base rate was increased from its record low level of 0.50 per cent to a rate of three per cent – still low compared to historical rates – millions of homeowners would have to cut out some aspects of spending or take on a part-time job to cope with the increase to their mortgage repayments.

The Bank said this would be the case even if annual pre-tax incomes went up to five per cent.

The Bank said that in the worst case scenario, if wages were frozen and base rate increased by 2.5 per cent, half of all homeowners would have to reduce spending or take on extra work.

If this happened 16 per cent of households would have to cope with repayments of more than 35 per cent of their gross income.

In its Quarterly Bulletin issued on Friday, the Bank of England said that nominal household disposable income has gone up by around three per cent a year for the last three years, though much of this has been wiped out by inflation which has remained above the Bank’s two per cent target since 2009, but which fell to 2.1 per cent in November, according to the latest official figures issued this week.

The Bank said that markets expect rates to start rising in mid-2015 and to reach 2.2 per cent by November 2017. However, the Bank said that by this time it expects both nominal and real wage growth to have returned to real growth.

The bank said: "Higher interest rates would increase debt-servicing costs for households, but the extent to which that may pose problems for households in the future will depend on how much incomes increase before rates rise.”

Under its policy of forward guidance on interest rates the Bank has pledged not to raise interest rates until the unemployment rate falls to 7.0 per cent. Official figures published this week showed the rate fell sharply from 7.6 per cent to 7.4 per cent in the three month to the end of October.

The Bank’s figures assume that lenders will pass on the full base rate increases and do not take into account homeowners on fixed rate deals who would be protected from any rate increases until the end of their fixed rate deals.

The data also showed that average household debt remains similar to the levels seen in 2012, with average mortgage debt at £87,000.

The survey of 6,000 people also showed people have borrowed more on credit cards and loans. The average amount of unsecured borrowing is up 16 per cent in 2013 to £6,300, from £5,400 in 2012. The proportion of people who have cut spending because of concerns about debt fell from 35 per cent in 2012 to 28 per cent in 2013.

Average monthly savings went up from £196 in 2012 to £255 in 2013. However, the Bank said the savings data was “puzzling” and “at odds” with official figures which indicate the savings ratio has fallen in the last 12 months.

The Bank said it could be explained by the fact that increased spending and higher savings are being funded by the increase in unsecured borrowing.


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