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Published: 19 June 2014 | Author: Bob Pannell

  • Expectations of higher base rates have intensified, following Dr Mark Carney's Mansion House speech.
  • Market indicators point to a slowdown in activity levels, in part associated with new mortgage rules, but it is unclear how lasting this will be.
  • The Financial Policy Committee may still announce modest interventions in the mortgage market, in order to guard against a build-up in personal debt levels, on 26 June.


The current economic picture continues to look highly favourable, with strong jobs growth driving a further sharp reduction in the headline unemployment rate - to 6.6% in the three months to April - and consumer price inflation dipping to 1.5% in May.

But near-term sentiment in the housing and mortgage markets hinges on policy decisions by the Bank of England.

The 12 June Mansion House speeches by the Chancellor of the Exchequer and Governor of the Bank of England were significant in this respect.

While both spoke about macro-prudential powers (see later section), Dr Mark Carney also signalled that interest rates might have to rise sooner than financial markets had been expecting.

His comments, coming so soon after the Monetary Policy Committee (MPC) had published its updated economic forecasts, initially surprised commentators. With the benefit of the recently published minutes of June's MPC meeting, we can see that the perceived shift reflects diverging views among committee members as to how quickly remaining slack in the UK economy will be taken up.


Chart 1: Government bond yields, %, by maturity in months

Market commentary June 2014 yield

Source: Bank of England


Financial markets were quick to respond, with an immediate spike in short-term yields. Two-year government bond yields are currently 18 basis points higher than just before the Mansion House speech.

Although financial markets still do not expect a rate rise later this year, it no longer seems entirely out of the question.

While the timing of a first interest rate rise remains uncertain, the Bank continues to emphasise that the profile should be one of cautious and gradual tightening.


Housing and mortgage markets 

Recent surveys and data give mixed messages.

This makes it hard to be definitive about current housing market trends, especially given the complicating factors of a late Easter this year and the introduction of mortgage market review (MMR) rules from late April. 

Backwards-looking data for the most part describe a robust picture, while leading indicators suggest a slowdown in activity.

Total gross mortgage lending, seasonally adjusted, stood at £18.4 billion in April – the strongest outturn since July 2008.

CML lending figures for April show only a modest pick-up from March, but these figures are not seasonally adjusted and so may be distorted by the timing of the Easter holidays. If we combine the March and April figures, the over-arching feature is one of lending activity continuing to run substantially higher than year-earlier levels.

According to HMRC, seasonally adjusted property transactions have been more than 100,000 for five months in a row – the strongest performance in six years.

However, approvals for house purchase have eased back since the start of the year, according to the Bank of England, with April’s seasonally adjusted figure of nearly 63,000 some 5% lower than in March and the lowest since mid-2013. 

The minutes of the June meeting of the MPC also refer to weakness in mortgage applications.

Our forward estimate is that gross lending in May closely matches the £16.5 billion seen in April. While this would still be 12% higher than a year earlier, it would represent a material softening in the pace of recovery.

The new MMR rules have almost certainly played a part, but their market impact is far from clear at this stage.

Implementation of the new regulatory regime is likely to have disrupted the normal patterns of activity, creating statistical “fog” around the published figures. As this lifts over the coming months, a clearer picture as to any lasting impact of the MMR rules on lending activity should emerge.

Until then, as the MPC stated, “… it is difficult to know how persistent the slowing in housing market activity … would be”. 

Meanwhile, softer data adds to the credibility of anecdotal reports that demand in London has begun to cool.


Macro-prudential measures

The market backdrop makes it an interesting time for the authorities to be contemplating macro-prudential actions.

The Financial Policy Committee (FPC) had its quarterly meeting on 17 June, and any policy announcements will be made on 26 June, alongside publication of the Bank’s Financial Stability Report.

Notwithstanding signs of a softening in housing market activity, our view is that the recent Mansion House speeches shorten the odds in favour of some modest FPC housing market interventions this month.

Both policy-makers emphasised that the risks to economic stability would arise from an unsustainable build-up of personal debt. 

George Osborne was at pains to stress that there was no immediate threat to financial stability, but acknowledged that it could arise in the future. 

He then proceeded to herald new directive powers for the FPC, to limit or ban high loan to income mortgages and to set LTV caps. While such powers will need to be consulted upon, the intention is for them to be in place by May 2015 (that is, before the end of this parliament).

These are draconian powers for a regulator and, as we emphasised at the time, the FPC is unlikely to exercise such powers, except in extreme circumstances. 

While welcoming these additional back-stop powers, Mark Carney noted that macro-prudential measures can be graduated and proportionate if action is taken sufficiently early, and that an advantage of acting early is that it allows the regulator to develop and refine its judgement around impacts.