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A consumer&#39s view

Who is right on the bank base rate – the money markets or Eddie George and his merry men? For homebuyers this is an important consideration – do they fix now or go for a big discount and hope the money markets are wrong?

The lenders have no choice but to reflect what the money markets are telling them and increase their fixed-rate mortgages. Woolwich, Britannia, Portman, Newcastle, Leeds & Holbeck have already withdrawn their cheap fixed rates, with others expected to follow.

The price of the interest rate swaps which back fixed-rate homeloans has been rising and mortgage lenders have no option but to reflect this in the fixed rates they offer.

But observers have expressed surprise that the money markets are so convinced that interest rates are heading significantly higher over the course of this year, not just in America but also in the Eurozone and the UK.

The markets seem to be expecting this as soon as April or May. The prediction is that bank base rate will move up from its current level of 4 per cent, ending the year at aro-und 5.5 per cent.

The reaction from the dealers is all the more surprising given that two members of the monetary policy committee, which sets interest rates, actually voted for further reductions as recently as January.

Moreover, deputy governor of the Bank of England David Clementi recently said “so long as the world economy recovers quickly enough to pick up the slack as consumption slows, it may be that we in the UK will avoid the sharp recession of previous cycles”.

As economists Mike Lenhoff and Simon Rubinsohn of stockbroker Gerrards put it: “This is clearly not a statement made by an individual contemplating an early interest rate hike.”

The problem for lenders, if interest rates really are on the up, is to persuade homebuyers that it is in their own interest to fix their mortgage rate – particularly if they have recently borrowed to the limit and would be struggling if there were a 1.5 per cent increase in borrowing costs.

Homebuyers prefer to shut their mind to these possibilities. With discounted mortgages still available at under 3 per cent, trying to convince them of a five-year fixed-rate at 5.79 per cent – the new rate now being charged by Woolwich – is an uphill struggle.

Lenders might try reminding overstretched homebuyers of what happened just over a decade ago. In May 1988 the standard variable mortgage rate bottomed out at 9.4 per cent. Three-year fixed rates stood at 10.25 per cent.

By September of that year the mortgage rate had risen to 12.75 per cent, peaking at 15.4 per cent in February 1990. What followed – massive mortgage arrears and repossessions – is well known, although many people prefer to forget.

The lenders insist that it is different this time round because mortgage rates are starting at such a low level. That may be true, up to a point.

It was the unemployment which followed in the wake of the late 80s interest rate hike which really did the damage. Homebuyers who remained in work generally found some way to pay and learned to live with negative equity.

It does not matter if the mortgage rate stands at 5 per cent, 7 per cent or 15.4 per cent. If the homebuyer is out of work, he or she cannot meet the mortgage payments with no income – whatever level they are at.

At the very least, homebuyers should be encouraged to take out mortgage payment protection to cover unemployment. But there is a problem here again.

Unless the insurer will allow overinsurance or offers “income protection” rather than MPPI, if the worst happens and the homebuyer is out of work and makes a claim, if interest rates have risen, the insurance payments may not be sufficient to cover the monthly mortgage outgoings.

The difficulty is that in any one year, 50 per cent of borrowers are first-time buyers, keen to keep outgoings to a minimum. Few will remember the disasters of the early 90s. Like car accidents that only happen to other people, young homebuyers are difficult to convince of the potential dangers lurking just around the corner. Let us hope they, and the lenders, do not get caught out.

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