Debt Anxiety Builds as Carney Weighs Rate Path: U.K. Credit

Jan 28, 2014 3:13 am ET

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Jan. 28 (Bloomberg) -- For Diane Stevens, the 1960s was a carefree time. As a hairdresser with her own salon, she spent her working hours styling hair into fashionable beehives and going to discos in the evening. Now aged 62 and receiving a pension, she’s worried about interest rates going up.

“It’s always there at the back of your mind,” Stevens, from Essex, east of London, said in an interview. “Each month when they say on the news ’The Bank of England have just released...,’ you think, ’Oh, here we go.’ It definitely is a worry.”

As the economy strengthens and unemployment tumbles, speculation is growing that BOE Governor Mark Carney and his colleagues could begin raising the benchmark rate from a record 0.5 percent as early as this year. His assurance that increases will be “gradual” may only offer limited comfort for hundreds of thousands of people like Stevens living on average incomes.

A rate increase would immediately push up the cost of variable-rate mortgages, which account for 70 percent of outstanding homes loans, according to the Council of Mortgage Lenders. Britons owe about 1.2 trillion pounds ($2 trillion) on their mortgages and almost half pays at least 3 percentage points more than the BOE benchmark.

Citigroup Inc. estimated this month that the central-bank rate could reach 2 percent by late-2015. Investors are betting policy makers could act this year, almost two years earlier than forecast as recently as August. Short-sterling contracts maturing in December were at 0.85 percent yesterday.

‘Debt Peril’

The Resolution Foundation, a London-based research institute, published a study last month that analysed how British households spending more than half their disposable income on mortgage payments would fare if rates rise.

It found that if rates rise to 5 percent and wage growth is uneven, the number of households in “debt peril” could jump to 2 million in 2018, up from 600,000 in 2011. Even if rates increase to only 3 percent in 2018 and wage growth is widely spread, the number at risk would nearly double to 1.1 million.

Stevens lives in a 1950s semi-detached three-bedroom house in Grays, Essex, valued at 235,000 pounds, just below the average U.K. house price of 248,000. She and her husband John, a site assistant at a college, pay 375 pounds a month on their 98,000-pound Bank of Ireland mortgage. They pay only the interest on the loan at a rate of 4.49 percent.

Household Bills

John, 61, earns 20,000 pounds a year before tax, while Diane’s pension is worth 7,000 pounds a year. Their monthly commitments include heating bills of 120 pounds; water rates of 30 pounds; and food costs estimated at 300 pounds.

The couple also run two cars because Diane helps care for her 38-year-old daughter, who has learning difficulties. Breakfast out, an occasional luxury, would disappear if rates rise, she said.

“We are in the position where once a month we can go out and have a meal, but we wouldn’t be if interest rates go up,” she said. “Normally we don’t go for anything extravagant; we go for breakfast out -- that’d cost you just over 10 pounds.”

A report by the Centre for Social Justice research institute in November found that U.K. households owe an average of 54,000 pounds in debt, up from 29,000 pounds a decade ago. Unsecured consumer debt has trebled since 1993 to 158 billion pounds. The CML estimates the average mortgage has risen to 130,000 pounds.

‘Over the Edge’

An increase in mortgage costs could send some households “over the edge,” according to Gillian Guy, chief executive officer of Citizens Advice, a counseling charity. In a statement, she called for “understanding” from lenders.

The plight of stretched households is not lost on the Bank of England. It estimates that almost a fifth of mortgage debt is held by those borrowing more than five times their income, limiting their ability to absorb shocks. Almost a third of households have less than 300 pounds of income after paying for housing and other essential expenditure, the analysis shows.

Carney indicated the bank is no hurry to raise rates after figures this month showed a record drop in unemployment to 7.1 percent, just above the 7 percent threshold at which officials had pledged to consider whether an increase was warranted.

“There is no immediate need to increase interest rates,” he told the BBC on Jan. 23. “It’s really about overall conditions in the labor market, and that’s what affects it.” Any adjustment to monetary policy will be “very gradual,” he said.

That may provide some relief for Stevens, who says higher rates may spur her to move to a cheaper home and pay off the mortgage. “A rate rise will have a big impact on our lives,” she said.

--Editors: Andrew Atkinson, Craig Stirling

--Editors: Andrew Atkinson, Craig Stirling