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How a sinking pound will inflate mortgage debt for millions

The pound rebounded from record lows but higher interest rate are likely to push up mortgages for millions. Photo: PA
The pound rebounded from record lows but higher interest rate are likely to push up mortgages for millions. Photo: PA

The drop in the pound (GBPUSD=X) has ramped up expectations for UK interest rates next year, meaning millions will see their mortgage repayments soar.

Financial experts at the Bank of England (BoE) expect the key rate to reach 6% in 2023 – far above the 1.5% rate projected just months ago.

This has been priced into the interest rate "swaps market", which banks use to price the mortgages offered to consumers.

Andrew Wishart, senior property economist at Capital Economics said if rates were to follow the path now priced into markets the jump in repayments would become far more severe next year, with buyers that come to the end of a two year fix in September 2023 worst affected.

Those people would see their mortgage rate increase from 1.2% to 6.6% and monthly repayments from £620 to £1,120 – a £500 rise.

Read more: Why has the pound fallen and what does this mean for you?

The pound sank to a record low following Kwasi Kwarteng's fiscal blitz. Photo: Matt Cardy/Getty
The pound sank to a record low following Kwasi Kwarteng's fiscal blitz. Photo: Matt Cardy/Getty

The turmoil has seen British lenders including Virgin Money, Halifax and Skipton Building Society withdraw some of their mortgages as concerns that the BoE will have to hike rates to support the pound rise.

So what does sterling's slump mean for Britain's housing market?

What is happening?

The pound plunged to historic low of $1.03 in response to chancellor Kwasi Kwarteng's tax-cutting mini-budget, forcing the chancellor and the Bank of England to move to reassure markets on Monday.

The chancellor said he would bring forward an announcement of a "medium-term fiscal plan" to start bringing down debt levels in the wake of his £45bn package of tax cuts set out on Friday.

The measures, which are intended to drive growth, spooked markets amid fears they would drive up borrowing to unsustainable levels and stoke inflation.

UK inflation
UK inflation

Kwarteng is meeting with City investors on Tuesday to discuss a package of deregulation as he contends with massive market turmoil sparked by his fiscal blitz.

Meanwhile, the central bank said it "will not hesitate" to raise interest rates to get inflation under control. Inflation was running at 9.9% in August, nearly five times the Bank's 2% target.

Bank governor Andrew Bailey said the Monetary Policy Committee, which sets rates, would assess the impact on inflation and the fall in sterling at its next meeting in November, and then "act accordingly".

Threadneedle Street has already hiked rates seven times in a row since December to the highest rate in 14 years.

What does this mean for mortgages?

Around 2 million people in the UK on a tracker or variable rate mortgage could see their monthly costs go up even further as a result of higher interest rates due to the pound's crash as the cost of living surges.

According to UK Finance around 1.8 million homeowners will come to the end of their fixed-rate deal in 2023.

Mortgage debts are larger now than they were in 2008 during the global financial crash, as property prices jumped and buyers are forced to borrow more to secure a home.

Bank of England interest rates
Bank of England interest rates

"At the current level of house prices, an increase in mortgage rates to 6.6% would cause the cost of repayments on a new mortgage to rise to their highest level since 1990," Wishart added. "Were the Bank Rate to rise from 2.25% now to 6.1% in June 2023 as is currently priced in, quoted mortgage rates might rise from 3.6% last month to about 6.6%, a level last reached in 2008."

Read more: Interest rates: How BoE's rate hike will impact mortgages and house prices

Samuel Tombs, chief UK economist at Pantheon Macroeconomics, said if interest rates rise as predicted, the average household refinancing a two-year fixed rate mortgage in the first half of 2023 would see monthly payments jump to £1,490 from £863.

The move means a spike of 73% for some mortgage payments. "Many simply won't be able to afford this," Tombs wrote on Twitter.

The Resolution Foundation said that for a homeowner with a £140,000 mortgage, rates rising to 5% could mean monthly payments increasing by around £190, relative to rates remaining at 2.25%.

Interest rates of 6% would push this typical mortgage payment up by around a further £80 a month, or roughly £1,000 a year, the think tank said.

Watch: Will UK house prices ever fall?

How will house prices be affected?

Economists have warned that UK house prices could fall as higher rates slash buyers’ spending power.

Capital Economics expects house prices are set to fall by as much as 15%, and Credit Suisse estimates prices could drop between 10% and 15% if the Bank Rate rises to 6% as predicted.

Read more: Will stamp duty cut push UK house prices up even further?

Andrew Garthwaite, head of global equity strategy at Credit Suisse, said in a note to clients: "Unemployment has to rise to circa 6% to control wage growth and to get inflation back to target.

"The 8% decline in sterling since 1 August should add a further 1.3% to near-term inflation.

"On current swap rates, the [average] mortgage will be 6.3%. House prices could easily fall 10% to 15%.”

In its latest stress test of the UK's eight biggest banks, the BoE has forecast a 31% fall in house prices over the first year of a hypothetical deep recession in the UK and global economies, higher rates and large falls in asset prices.

That marks a sudden shift for the property market, which has seen explosive price growth in recent years.

Price rises shot up into double digits during the pandemic after record low rates, lockdowns and working from home fuelled a race for space that saw households reassess their living arrangements.

Average UK house prices increased by 15.5% in the year to July – a record high.

Watch: How does inflation affect interest rates?