Soaring mortgage repayments will soon inflict the same pain on household budgets as they did in the early 1990s when rates exceeded 15pc, analysis suggests.
The house price boom and rising interest rates mean borrowers will soon be paying the same proportion of their income towards the mortgage as homeowners were forced to three decades ago when the Bank Rate was nine times higher.
However, the rapid house price growth in the wake of the pandemic means that households’ “pain threshold” for rate rises today is far lower than during the late 1970s and early 1990s, when borrowers last faced exceptionally high mortgage rates, the study by estate agents Hamptons suggests.
The Bank of England last week raised the Bank Rate for the fifth consecutive time in six months – increasing rates from 1pc to 1.25pc. Soaring inflation, which is now expected to hit 11pc this year, means further rate rises are in the pipeline. Capital Economics, a research consultancy, has forecast the Bank Rate will hit 3pc next year.
These rates sound small compared to previous peaks in the Bank Rate, which hit 17pc in 1979 and 14.9pc in 1989. But the impact of rate rises will cause similar strain today because house price growth has been so out of kilter with wage growth.
If the Bank Rate rises to 3pc as forecast, homes will be as unaffordable as they were in 1991, when the Bank Rate was 10.88pc, according to Hamptons.
Back then, high interest rates were one of the key factors behind the property market downturn that triggered house price falls for three and a half years.
House price growth means that homebuyers today must spend a much larger share of their income on their housing costs.
With the Bank Rate at 1.25pc, a first-time buyer purchasing an average £297,524 home on a 25-year repayment mortgage spends 36pc of their monthly salary on their mortgage.
If the Bank Rate rises to 3pc, this share will jump to 45pc – on par with August 1991, when the Bank Rate was nearly quadruple what it is forecast to hit now.
David Fell, of Hamptons, said: “As a crude rule of thumb, a rate rise of one percentage point today exerts about twice the pressure on mortgaged household finances as the same rate rise would a decade ago.
“The sale of house price growth and mortgage debt taken on by households means that fairly limited base rate rises by historical standards have the ability to add significant pressure onto household finances.”
Bank Rate rises today will also have a higher impact because buyers have become accustomed to ultra-low rates. For the last 13 years, the Bank Rate has been below 1pc. The move into a higher interest rate environment is likely to have a much bigger impact on market sentiment, particularly in the context of the cost of living crisis, when buyers are seeing bills for food, energy and fuel soar.
The Bank Rate would need to rise to 7pc to have the same impact on household finances as the 17pc Bank Rate recorded in November 1979, Hamptons found.
With a 7pc Bank Rate, the average first-time buyer would have to spend 66pc of their monthly salary to cover a mortgage on an average home. At the peak of the Bank Rate in 1979, the share was only 63pc.
Lewis Shaw, of Shaw Financial Services, a mortgage broker, said: “We have a generation of homeowners that have never seen a typical base rate or the mortgage rates that flow from them. This means their frame of reference will now need to adjust and we all know that can be difficult.”