DANNY GABAY: Will it be US interest rates that finally make UK house prices come unstuck?

Cheap money hides a lot of ills. It lifts financial markets, boosts bank profits and can even give the appearance of an economic recovery.

Globally, money has never been cheaper. Interest rates are at or close to zero in most advanced economies. Central banks have flooded the global economy with newly-created money, which they have used to purchase other assets, mainly government bonds.

Quantitative Easing (QE) furth

Cheap money hides a lot of ills. It lifts financial markets, boosts bank profits and can even give the appearance of an economic recovery.

Globally, money has never been cheaper. Interest rates are at or close to zero in most advanced economies. Central banks have flooded the global economy with newly-created money, which they have used to purchase other assets, mainly government bonds.

Quantitative Easing (QE) further drives down longer-term interest rates. Markets have responded. As Chuck Prince, the erstwhile head of Citibank might have said

Cheap money hides a lot of ills. It lifts financial markets, boosts bank profits and can even give the appearance of an economic recovery.

Globally, money has never been cheaper. Interest rates are at or close to zero in most advanced economies. Central banks have flooded the global economy with newly-created money, which they have used to purchase other assets, mainly government bonds.

Quantitative Easing (QE) further drives down longer-term interest rates. Markets have responded. As Chuck Prince, the erstwhile head of Citibank might have said, while central banks are printing, the markets will keep dancing.

But the problem with cheap money is that it cannot last forever. Ben Bernanke, chairman of the Federal Reserve, last month spooked financial markets by setting out a timetable for the gradual unwinding of QE in the US.

Long-term interest rates in the US moved sharply higher. When the US sneezes, we all catch a cold. And since the introduction of QE, we are all bound together even tighter.

Currently, following a one percentage point increase in long-term interest rates in the US, we would expect an increase of 0.9 percentage points in equivalent UK interest rates. QE was never the solution, it could only buy time.

while central banks are printing, the markets will keep dancing.

But the problem with cheap money is that it cannot last forever. Ben Bernanke, chairman of the Federal Reserve, last month spooked financial markets by setting out a timetable for the gradual unwinding of QE in the US.

Long-term interest rates in the US moved sharply higher. When the US sneezes, we all catch a cold. And since the introduction of QE, we are all bound together even tighter.

Currently, following a one percentage point increase in long-term interest rates in the US, we would expect an increase of 0.9 percentage points in equivalent UK interest rates. QE was never the solution, it could only buy time.
Quantitative Easing (QE) further drives down longer-term interest rates. Markets have responded. As Chuck Prince, the erstwhile head of Citibank might have said, while central banks are printing, the markets will keep dancing.

But the problem with cheap money is that it cannot last forever. Ben Bernanke, chairman of the Federal Reserve, last month spooked financial markets by setting out a timetable for the gradual unwinding of QE in the US.

Long-term interest rates in the US moved sharply higher. When the US sneezes, we all catch a cold. And since the introduction of QE, we are all bound together even tighter.

Currently, following a one percentage point increase in long-term interest rates in the US, we would expect an increase of 0.9 percentage points in equivalent UK interest rates. QE was never the solution, it could only buy time.

9

 

Enter George Osborne and his ‘Help-to-Buy’ scheme. Effective from next January, the Government will underwrite high loan-to-value mortgages, leaving the state on the hook for almost 15 per cent of the value of any property purchased under the scheme.

The Government has re-introduced 5 per cent deposits – at precisely the wrong time. As the US Federal Reserve unwinds its QE programme, US long-term interest rates could rise by almost two percentage points. This could push UK long-term interest rates some 1.5 percentage points higher.

A sustained rise in UK mortgage rates of this magnitude would destroy the arithmetic supporting current valuations, and could ultimately see prices fall by 20-30 per cent, relative to incomes.

The MPC can set Bank Rate – the rate at which the Bank of England lends money to commercial banks overnight. But it has no control over longer-term interest rates, including those used to price fixed-rate mortgages, preferred by around 70 per cent of new borrowers.

The desire to break the link between long-term interest rates in the US and the UK has led the MPC to issue ‘forward guidance’ earlier this month. The UK economy is ill-prepared for a rising interest rate environment. Household finances are stretched, and housing is almost as expensive as it was at the height of the credit boom.

The BoE will come under intense pressure to talk down UK interest rate expectations, and it has had little success so far.

When the Federal Reserve announced its plans to start unwinding QE, UK long-term interest rates rose by 0.4 percentage points. When the MPC gave forward guidance, they hardly budged.
Source

 



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