With speculation rife on the timing of interest rate rises, the Resolution Foundation’s paper yesterday on how indebted households will fare once the base rate goes up was timely. The report will make for a sobering read for Mark Carney and fellow inhabitants of the Old Lady. As many as two million mortgage payers could struggle once interest rates climb from 0.5 per cent to 3 per cent, the thinktank said. Without a state-backed plan to alleviate the pain for over-leveraged households, many will be forced to hand back the keys to their homes.
For Labour London Assembly members, this is a particularly hot topic. Last week, at the Assembly’s Economy Committee, I asked the Mayor’s Economic Adviser, Dr Gerard Lyons, what he meant when he disagreed with the Governor of the Bank of England’s assessment that the Bank’s “new normal” rate level is likely to be 2.5 per cent. Lyons said “the level at which UK interest rates need to eventually peak should be high, not low…I would sooner have them at 5 per cent or 6 per cent than 2 per cent or 3 per cent.”
Lyons, a distinguished City economist by trade, may not have realised the political implications of his honestly expressed view. I immediately crunched the numbers, calculating how, given that the average price of a London property now stands at £492,000, a rate of 6 per cent would double the average London monthly mortgage payment from around £2,000 to £4,300 per month.
At Mayor’s Question Time, I asked Boris Johnson if he agreed with Lyons. Despite obfuscation, the Mayor eventually endorsed the Lyons view that a base rate of 5-6 per cent would be appropriate at the end of the economic cycle.
Doubling of mortgage repayments would spell disaster for those who bought homes on variable mortgages at low rates. Even a moderate rate rise would result in defaults and repossessions, set against the background of rising cost of living and stagnant wages.
The Resolution Foundation’s report highlights how the problem is exacerbated in London. Around a third of mortgaged households are predicted to be “highly geared” by 2018. The thinktank notes how this is “particularly worrying, as such households are least likely to have spare resources to fall back on in the event of an increase in mortgage costs”.
Boris Johnson argues that even if things became this severe, defaults and repossessions would cool the housing market and halt house price inflation – which would surely be welcomed. The Mayor knows full well this is simplistic. Having re-inflated the economy on the back of an asset bubble, such a tightening of monetary policy would not merely reduce upward pressure on house prices, but by diverting more household income to servicing debt, would reduce aggregate demand and undermine economic recovery.
Lyons and Johnson do not sit on the Monetary Policy Committee nor set interest rates, so does this matter? If you believe that Johnson is set on becoming Conservative leader (and probably taking Gerard Lyons with him), then yes, these views give a valuable insight into his economic outlook.
Boris Johnson is content to stand by and watch vulnerable London homeowners squeezed till the pips squeak so as to cool inflation in the wider economy. Those who remember struggling with mortgage repayments in the Thatcher-era of high interest rates will find this alarming.
The challenge for a 2015 Labour government will be to inject stability in the over-heated London housing market without wrecking the recovery in the wider economy. This is why Labour’s proposals to level the playing field with an active industrial strategy, investment in chronically-underfunded infrastructure, and further devolution to local government are an attractive offer to the electorate.
Andrew Dismore is Labour London Assembly member for Barnet and Camden and the party’s parliamentary candidate for Hendon