The UK mortgage market: new rules & higher hurdles

Rupert Seggins

@RBS_Economics

In short…

• The rules of the UK mortgage market have changed considerably since the crisis.

• The purpose has been to make borrowers (and by extension lenders) less likely to get into trouble during a crash.

• These changes have had consequences. Tightening standards means that progressively higher income households are the only ones able to afford to buy a house.

• The new normal: higher-income buyers, lower risk in the market, 30% fewer first time buyers with a mortgage each year than before 2008.

2

The UK housing market – cause & effect

3

UK planning restrictions

Tougher policy stance on risk

Continued population

growth

Expectations that prices

will continue to grow

Tighter lending

criteria than before 2007

Richer, lower risk home buyers; fewer

mortgages; lower home ownership rate

Globalisation & technology

creating inequality

The focus in this pack is on these factors

4

Tougher policy stance on risk

Tighter lending

criteria than before 2007

Richer, lower risk home buyers; fewer

mortgages; lower home ownership rate

Fewer mortgages – the new normal

5

• Since 2007, mortgages have become cheaper. But it takes considerably longer to save for a deposit.

• The biggest driver of the first time buyer mortgage market is the ability to raise a deposit.

• We estimate that a “new normal” in the first time buyer market with an average 15% deposit requirement is 328,000 transactions per year. This is 29% below the pre-crisis average of 416,000.

Changes in risk – when do borrowers default?

6

• By and large, falling house prices by themselves are not enough to cause a big surge in mortgage problems.

• You need a combination of falling house prices alongside either increased unemployment (2007) or a spike in borrowing costs (1990).

• Or all three…

Lower rates, longer terms – easier debt servicing

7

• Since 2010, average mortgage interest rates have fallen from 3.8% to 2.7%.

• During the same period,

average mortgage terms have risen from 21 years to 24 years.

• This has led to a £1,800 fall in annual repayments on an equivalent sized mortgage.

• First time buyers have mainly benefitted from lower rates, while home movers have benefitted from longer terms

Increasing resilience to any future rate rises

8

• Since the early 1990s, lower rates have enabled households to take out larger loans relative to incomes.

• But owing to more affluent borrowers, rates would have to rise considerably from where they are now for interest payments relative to incomes to get back to where they were in 2007.

The Mortgage Market Review – joint borrowers & more brokers

9

• The Mortgage Market Review, which took effect in April 2014, introduced tougher criteria for households to meet before being granted a mortgage.

• This prompted two reactions from mortgage borrowers: 1) more joint borrowers in response to the stiffer income tests; 2) greater use of mortgage brokers in response to the extra complexity

The importance of the Financial Policy Committee

10

• The Bank of England has been using its new powers to try to make the mortgage market more resilient.

• The “ideal” is the case of Hong Kong. In 1997, house prices fell by 66%, but very few mortgages fell into arrears.

• Thus far, the Bank of England has used one trick. A cap on the proportion of mortgages being issued with a loan size relative to incomes larger then 4.5 time. It worked.

Higher income borrowers a consequence of lower risk

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• The average house buyer is looking less and less like the average household.

• Average house buyers’ incomes have largely kept up with price rises since 2007. High prices may be more sustainable than commonly thought.

• On current trends, one third of the mortgage market would be made up of “wealthy achievers”. An increase from one fifth in 2010.

Summary – lower risk, higher incomes, higher prices

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• The mortgage market has changed a lot since 2007.

• Policymakers and lenders have worked to make the market more resilient to spikes in interest rates & unemployment.

• This has lowered the risk of borrowers getting into trouble. But it also means fewer mortgages, fewer middle to lower income borrowers and has helped embed the trend of falling home ownership.

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