Booming Britain fears debt backlash as Bank of England heads for rate rise
Published 04/08/2015 | 02:30
After more than six years of record-low interest rates, the looming increase hinted at by Bank of England policy makers may come as a shock to consumers driving Britain's recovery.
As Governor Mark Carney signals that rates could rise early next year, officials are weighing the potential costs for the fastest-growing G7 economy.
A risk is that highly indebted households cut spending, putting the brakes on an expansion getting no help from exports.
For many people under the age of 30, the increase will be the first of their working lives. The BOE has held its benchmark at 0.5pc since March 2009, helping to fuel a housing boom that has left Britons owing a record £1.5 trillion (€2.13 trillion).
The key rate averaged 4.5pc in the preceding six years.
"I would expect the economy to be more sensitive to a 25 basis-point rise than in the past, since the level of household debt in the economy is still relatively high," said David Tinsley, at UBS Group in London. "There's a segment of the household sector whose perceptions of a normal rate of interest is conditioned to be very low."
One such person is Naomi Scott-Mearns (23), a consultant who is saving to buy a home in London. "It is a real concern for people having to consider an interest-rate rise. I think some people will have to scale back spending." At over 140pc of income, the debt burden of households is higher than in the US, Germany and France, and government forecasters see it hitting almost 170pc by 2020. BOE financial-stability officials estimate about 5pc of households have debts equal to four times their income or more. A rate rise would push up the cost of variable-rate mortgages, which account for almost 60pc of outstanding homes loans. The preference for fixed-rate loans in recent years may offer little respite as many are on short terms, according to Societe Generale's Brian Hilliard.
While most personal indebtedness is made up of mortgages, unsecured debt such as credit-card borrowing is growing at about 8pc annually. Total debt costs would rise by £1,000 a year if interest rates increase by 2 percentage points, PWC estimated in a report in March.
The dangers are not lost on the BOE, which acted last year to stop people taking on debt they may struggle with. Mr Carney says rates will go up gradually and peak below pre-crisis levels. Money markets are barely pricing in a benchmark rate of 1pc by September next year. The nine-member Monetary Policy Committee is meeting this week against a backdrop of a firming labour market and the longest stretch of continuous economic expansion since before the financial crisis. That could lead a minority to vote for an interest-rate increase.
"We look for three MPC members to have voted for a 25 basis-point hike this time, ahead of an eventual November hike as momentum in wage growth continues," said Sue Trinh, at RBC Capital Markets. Rising living standards could help insulate consumers from rate rises. Wage growth accelerated at the fastest pace in more than five years in May, while inflation is zero.
Britain's reliance on the willingness of consumers to keep spending was underscored by a survey yesterday showing that manufacturing remained all but stagnant in July as export demand fell for a fourth month.
For now, the burden of debt remains manageable as lenders compete for market share by cutting rates to all-time lows. First-time buyers are losing just over a third of their take-home pay to mortgage payments, compared to over a half when the BOE last raised rates, to 5.75pc, in July 2007, according to Nationwide Building Society.
For some economists, the longer the BOE delays, the bigger the shock will be when policy is tightened. "A rate rise should be relatively prompt, and relatively steady," said Philip Shaw, an economist at Investec Securities in London. "There's a general level of uncertainty, given that we've not had a rate increase for so long." (Bloomberg)