A new Bank of England policy will see high levels of personal debt being considered, once monetary policy starts to be tightened. However, according to David Miles (the Bank’s policymaker), substantial hardship looks improbable. Miles was reacting to data indicating that 20% of Britons might struggle to meet their mortgage payments, and get out of debt, if benchmark interest rates increased to about 4% by 2017, while personal income growth remained uneven and weak.
Recently, Miles participated in a panel debate centred on the research by the think tank Resolution Foundation. Miles remarked that the bank was very aware of these problems, and that he felt the research highlighting this was helpful. These comments from Miles come off the back of a bizarre statement from the Bank a week ago, which mentioned that it was not rushing to increase its’ primary rate of interest from an unprecedented low of 0.5%.
This advice on the future direction of monetary policy, which is endorsed by Mark Carney (the new Bank governor), follows recent increases in the cost of borrowing on financial markets. Also, it was intended to stop investors from punting on rate increases too quickly. The worst case situation, highlighted by the Resolution Foundation, assumes the growth of household income will not surpass Britain’s economic growth. This is skewed toward wealthier Britons, and would see a 2017 Bank rate which is two percentage points over the 1.9% level presently expected by the markets.
In this situation, the report states, the percentage of households which spend over 50% of their after tax income on repaying debt would be over twice that of its’ present level, to 5%. Another 16% would spend more than 25% of their after tax income on debt repayments, which makes them prone to adjustments in earnings, house prices or borrowing costs. While the Resolution Foundation said this situation was possible, Miles was sceptical. Miles pointed out that, although the figures look scary, this scenario was very unlikely. Indeed, Miles implied that the likelihood of all of those events occurring together seemed very remote.
For starters, Miles noted, rates for mortgages would be unlikely to increase to the same extent as the rates of the central bank. Partially, this is because, since the economic crisis, mortgage rates have not declined as dramatically as the base rates. Also, Miles suggested that the central bank is unlikely to increase its’ rate significantly, if income growth was failing to keep pace with GDP due to increased taxes.
However, another panellist, Gillian Tett (a Financial Times journalist), pointed out that a dramatic increase in the cost of borrowing in Britain may be outside the control of the Bank of England. Indeed, markets might suddenly lose confidence in the British government’s ability to settle its’ debts. This would push up borrowing costs, like gilt yields, and concerns about inflation would grow. Next month, under the new leadership of Carney, the bank is scheduled to react to a request made by George Osborne (the British Chancellor) to consider offering more detailed advice on the future path of monetary policy.
Debt Legal’s Jonathan Matthews is a senior debt advisor. He has an extensive range of experience in this field and personal finance debt.
