Housing market 'starting to turn' but Cunliffe insists interest rates aren't going 'back to the 90s'

Credit: PA

If the Bank of England is right then we are in the early stages of a downturn but no one appears to have told the housing market.

The annual rate of house price growth eased slightly in May but still stood at 11.2%, according to the Nationwide.

At a time of slowing economy growth and rising interest rates that’s going some.

Sir Jon Cunliffe, Deputy Governor for Financial Stability at the Bank of England, is unflustered.

“I think a lot of [the rise in house prices] is to do with the way the pandemic affected people and affected their preferences for where they wanted to live,” he told ITV News.

“The other factor”, he adds, “[is] many people built-up savings simply because they couldn’t spend, so there is probably £200 billion of extra savings in the economy from that period. I think that also helped people go into the housing market to buy housing."

It matters greatly, argues Cunliffe, that the boom in the housing market wasn’t debt-fuelled.

“One very important fact - though house prices have risen and are still rising fast - household indebtedness, the amount of mortgage that people are borrowing relative to their income hasn’t really changed," he says.

'Bank of England' believes house price boom during the pandemic was driven by savings not debt.

The Bank of England believes levels of mortgage debt in the UK look serviceable but the cost of borrowing is rising.

The Monetary Policy Committee, of which Cunliffe is a member, has increased interest rates four times in the last six months in an attempt to contain high and rising inflation.

Cunliffe says that it takes 18 months for the full impact of higher interest rates to be felt in the economy but he believes there are signs the heat is already coming out of the housing market.

“We see evidence of a slowdown,” Cunliffe told me. “I think there are some straws in the wind that show the [housing] market is starting to turn. As you know, the Bank expects the economy - that’s already slowing, and we expect it to slow further, to slow quite a lot over next year or so. And I think that will have an impact on the housing market."

'The market is starting to turn'

Nothing can defy gravity, and there’s a lot pulling down on house prices. Consumer confidence in the UK is at a record low; business confidence is falling; unemployment is forecast to rise; the cost of living squeeze is intensifying in the face of rampant inflation - the like of which the UK hasn’t seen for many years - and interest rates are rising to contain it.

Bank Rate was at 0.1% in December, it now sits at 1% and investors expect it to reach 2.5% by May next year.

Want a quick and expert briefing on the biggest news stories? Listen to our latest podcasts to find out What You Need To know...

I asked Cunliffe if he agreed that the era of cheap borrowing had come to an end.

“We have to ensure that the inflation we are seeing in the economy now - most of which, but not all, is coming from shocks that people understand are from abroad… that that doesn’t become the new normal,” Cuncliffe replied.

“So interest rates may well have to rise further. But there are also some features about interest rates which are different now to where they were 15, 20 years ago and it's about balance of savings versus investment in economy. So while I expect interest rates - having risen back to above pre-pandemic levels - not to see levels we saw again over the last 12 months, I also don’t think we’re heading back to the interest rates of the 1990s”.

The Bank has to ensure that high inflation 'doesn’t become the new normal,' says Cunliffe

In the 1990s, Bank Rate fluctuated between 5% and 14.8%.

What happens next to house prices largely depends on what happens to the economy and to interest rates.

A recession looms but history suggests that people hold onto their homes in a downturn as long as they hold onto their jobs.

Adam Posen, a former MPC member at the Bank, warned recently that he thought that the Bank would have to tighten policy much more aggressively to get inflation back under control.

Posen believes Bank Rate may need to rise as high as 5% to stabilise price rises.

Interest rates are expected to head higher and lenders are rapidly repricing their mortgage products accordingly.

Capital Economics says the average rate banks will offer of a 60% loan-to-value mortgage, fixed for two years, has jumped from 1.1% last August to 2.3% now.

Andrew Wishart, a Senior Economist at Capital Economics, expects Bank Rate will be hiked to peak at 3% and that servicing a mortgage will become more expensive still.

He forecasts house prices in the UK will fall by 5% between the end of this year and 2024.

Cost of servicing mortgage debt (as a % of households income). Credit: Capital Economics

If Bank Rate does reach 5%, Wishart calculates that house prices in the UK “would look around 36% too high”.

The Bank of England forecasts a sharp slowdown in house price inflation next year but does not expect nominal prices to fall.

“I am certainly not predicting a crash in house prices. I think when rate of increase goes down, that is a correction, and then there’s a question of whether house prices rise faster than other prices,” says Cunliffe.

“Remember, we are seeing inflation at very high rates [the headline rate reached 9% in April] so actually in real-terms you could find that house prices are going down quite substantially."

First-time buyers will be hoping Cunliffe is right. The surge in house prices during the pandemic has made life even more difficult for those who aspire to own a home of their own.

The pandemic boom has priced-out first-time buyers: the average home today costs 6.9 times earning - a record high

According to Nationwide, the typical house today costs 6.9 times the average annual earnings - a record.

“I really do feel for [first-time buyers],” says Cunliffe. “Clearly, if a mortgage costs more then it is harder to get on the housing ladder.

“But the worst thing for first-time buyers and the worst thing for the economy is we wind up with more persistent inflation”.

A post-lockdown “race for space” continues in the housing market but so does a race to extinguish red hot inflation.

The Bank of England is making its priority clear. Expect interest rates to rise accordingly.

Watch Joel Hills' interview with Jon Cunliffe in full