CML news & views

Earlier this month, the Bank of England reported that net lending was negative in July. At minus £418 million, it is the first time the seasonally adjusted figure has been below zero in 16 years of available monthly data – and 22 years of quarterly data.

This was a further drop from what was already a record low of +£145 million in June. Unadjusted, net lending was +£1.5 billion in the month – the unadjusted series dipped briefly into negative territory in February, but has been positive since.

Much of the press reported this as "UK households paying down debt more quickly". But the real story is more complicated. And in fact there is little sign of borrowers making a concerted effort to pay down mortgage debt, at least in aggregate terms.

So, what is net lending?

The Bank defines it as: “The change (or flow) in net lending refers to the flow of gross lending less the flow of repayments. The figure for the monthly net lending flow will not necessarily equal the difference between the level of lending this month and the level of lending the previous month, because various adjustments are applied to the latter, such as adjustments for bad debt write-offs to arrive at the net lending flow.”

Essentially net lending measures what happens to the outstanding value of all UK mortgages from month to month after accounting for write-offs and other adjustments.

As a simple starting point, we should not be surprised that net lending has fallen so sharply given the widely reported decline in the flow of gross lending (all mortgage lending), with volumes now at their lowest in several years. But there are a number of other factors that also influence the total mortgage stock.

Capital repayments

Back in July, we outlined what has happened with mortgage repayments. This is the most significant factor on the other side of the balance sheet to new lending in driving UK mortgage balances.

The largest component of repayments is redemptions – that is, full repayment of an outstanding mortgage. In almost all cases, this will reflect either remortgaging activity or a property sale. But when a borrower redeems a mortgage because he has sold a property, he often goes on to take out a new mortgage to buy another home. So redemption in one part of the market is usually matched by new borrowing in another – and in many cases this will not reduce the value of outstanding mortgages for the system as a whole. In fact, when remortgaging, some borrowers increase the size of the loan by taking out equity, meaning the new borrowing could exceed the redemption. And home-owners will often take out a larger loan than the one they redeemed as they trade up in the housing market.

So it is in other types of repayments where we might see evidence of more concerted efforts to pay down debt.

The Bank also publishes data on regular repayments, the (typically monthly) capital payment component of a repayment mortgage. With low interest rates, the capital payment part of a repayment loan automatically increases. Additionally, some borrowers might opt to keep their total monthly payments steady as rates fall, further increasing the capital payments seen in the data set. But while there has been some increase in regular payments, the effect is relatively modest and was seen mainly over the early part of the year. It was not the cause of the negative net lending figure in July.

Lump sum payments are the other source of capital repayments. This is the other area where we might expect to see an increase if borrowers are making a conscious effort to pay back debt more quickly. But, if anything, these payments have fallen in recent months.

Chart 1: Regular and lump sum mortgage repayments

Source: Bank of England

Small adjustments, big impact

So we need to look further into the numbers to find what is driving net lending lower. To a large extent it is driven by low new total lending while underlying repayments remain fairly steady. Underlying regular and lump sum payments are mainly driven by the total outstanding mortgage stock – a figure that can only change very slowly in the short term. New lending can be far more volatile and has dropped very sharply since the credit crunch.

There is also a statistical quirk here. At such low lending levels, factors that might previously have had little effect now have a larger proportionate impact. Write-offs are one part of this, although the evidence suggests only a relatively small part. But the same is true of other technical adjustments that are not directly caused by new lending or capital repayment.

Chart 2: Net lending and difference between gross lending and repayments

Source: Bank of England, CML calculations

Conclusion

So there is little evidence that households, at least in aggregate, are currently making any extra efforts to pay down their mortgage debts more quickly. What is more difficult to know is whether there are some groups of borrowers who are following this path, while at the same time other groups are actually paying down less, possibly as a coping strategy to overcome a loss of income during the recession.

By and large underlying capital repayments have not changed greatly in recent months. But the difference between this and new lending volumes has fallen as funding constraints have limited lenders’ ability to extend credit. And, with this gap at such low levels, other technical adjustments to the outstanding mortgage book can have a much larger proportionate effect on monthly net lending outcomes. But one fact that is fairly clear from all the data is that the total size of the UK’s mortgage book has been broadly stable in recent months, growing by less than 1% over the last year.