Record high house prices in the UK, Germany, USA, New Zealand, Australia and Canada have one thing in common: historically low interest rates that have pushed down the cost of mortgages and supported demand. Yet rates are expected to rise in most countries by the end of next year, and when they do, it could shake the foundations of the fastest annual real house price growth in the OECD countries in many decades in the first quarter of 2021.
In the UK, the Bank of England kept interest rates unexpectedly at the current historical record low of 0.1 per cent in November, but markets expects an increase at the December Monetary Policy Committee meeting with further increases likely next year.
Will house prices tank as a result? The answer depends on the size and timing of rate hikes, experts say, as well as on how much a shortage of property and a strong labor market are still exerting upward pressure. Forecasts range from a slowdown in growth to a complete contraction.
The UK official house price index grew at an annual rate of 10.6 per cent in August, an almost record pace since 2007, despite fears of a sharp correction following the reduction in the stamp duty rebate in July. In October, the Nationwide House Price Index showed that the trend continues even after the return to pre-pandemic stamp duty rates.
Lucy Pendleton, real estate expert at real estate agent James Pendleton, says this was the result of buyers rushing ahead of “an almost certain range of interest rate hikes” expected over the next 18 months, which appears to be “a much more powerful motivation to transaction than the stamp duty holiday ever was ”.
Boris Glass, senior economist at S&P Global Ratings, says “any increase will lead to higher costs for prospective buyers and therefore lower demand, while putting downward pressure on house prices.”
In anticipation of the hike, many mortgage lenders have already increased their mortgage rates over the past few weeks.
Jeremy Leaf, a real estate agent in North London, says that although a rise in interest rates will only directly affect a small proportion of lenders on variable rate transactions, a rise in confidence in the wider market will jeopardize, especially among first-time buyers . budgets.
The Office of Budget Responsibility, the UK fiscal watchdog, in its outlook published alongside last month’s budget, predicted that mortgage interest payments would rise by 20 per cent in the two years to Q3 2023, the fastest rise in more than a decade.
Martijn van der Heijden, chief financial officer at mortgage broker Habito, says that even if the rate rises by as little as 0.25 percent, many people can see their repayments skyrocket by hundreds of pounds a year.
More than 3.5 million first-buyer mortgages have been issued since the Bank of England dropped its policy rate to 0.5 per cent in 2009, following sharp successive cuts from 5.75 per cent in 2007. “This is a large group of homeowners that I do not know how it is when interest payments rise significantly, ”says Tom Bill, head of British residential research at Knight Frank.
However, interest rates have a long way to go, even reaching historical averages after last year’s rate cut to 0.1 percent, the lowest since the Bank of England was created in 1694. Similarly, mortgage rates are moving at near-record lows. In September, the average “effective” interest rate – the real interest rate paid – on newly drawn bonds was 1.78 percent, down from a 15-year high of 6.2 percent in 2008. Over the same period, it dropped from nearly 6 percent up to 2 percent on outstanding mortgages, the lowest on record, according to Bank of England data.
Banks may absorb some of the increase in financing costs in their margins, which reduces the increase in mortgage rates, experts say. Other factors may mitigate mitigating demand due to rising rates: the labor market is solid, with businesses often raising wages to attract and retain staff; and UK households have accumulated savings equivalent to nearly 9 per cent of GDP since the first Covid-19 restrictions, according to Bank of England data. “These savings are mainly concentrated in middle- and higher-income households, which are exactly those who could buy [houses], ”Says Glass.
At the same time, there are few homes for sale, according to the Royal Institution of Chartered Surveyors, with surveyors reporting nearly record-low available homes available per branch for sale in all regions of England and Wales.
However, other factors point to weakening house price growth.
Real estate prices relative to first-time buyers are now at an all-time high, according to Nationwide. In London, it can take 16 years for someone with an average wage to set aside a 20 per cent deposit for a typical first-time property, according to calculations by Nationwide.
“We expect rate increases to slow down house price growth, especially in areas where affordability has already been stretched a lot, such as e.g. London, ”Says Lawrence Bowles, senior research analyst at Savills.
In general, this means a great variety in predictions. Nitesh Patel, strategic economist at Yorkshire Building Society, says YBS expects house prices to continue to rise “but at a slightly slower rate next year”.
Glass thinks that UK house price growth is already experiencing a soft landing and “if rises come too soon or are too large, it could hit the housing market in the middle of that adjustment phase and make it worse”.
“We think the rise in mortgage rates suddenly seems to be enough to mean that house prices will stagnate in the first half of 2022,” Tomb said in a statement.
A bank rate hike to 0.75 percent could lead to house price growth slowing to 4 percent by the end of 2023, according to Andrew Wishart, a real estate economist at Capital Economics. But “if the MPC undertakes a significant tightening cycle, which may increase bank rates to 1.5 per cent, house prices could fall by 4 per cent.”