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Published: 12 August 2010 | Author: Bernard Clarke

It is very difficult to forecast with a high degree of confidence at a time when there are so many variables which may impact in unexpected ways on the economy, consumer confidence (demand), business focus on this financial market (supply), and the evolving political and regulatory backdrop both in the UK and globally. 

As a result, this forecast update covers 2010 only, and we will discuss our numerical expectations for 2011 at the end of the year, after completion of the government’s comprehensive review and our response to the FSA consultation paper on responsible lending.

Forecast summary

In the next few months, we expect a continuation of the recent picture of relatively modest lending levels, with less of a pick up in the second half of the year than we previously thought. As a result, overall, we expect both gross and net lending levels to be at or below 2009 levels. This reflects stability but at well below what might be expected to be a normal level of market activity of around £250 billion (itself well below 2006/2007 when lending levels were uniquely high).

At the same time, and more positively, historically low interest rates and the labour market having held up better than expected so far have continued to help many households cope. This has kept mortgage problems lower than we expected, with more people with short term financial difficulties being able to get back on their feet. This means that both arrears and possessions levels are expected to be materially below 2009 levels at the end of the year, rather than above as previously forecast. 

But there is no room for complacency as arrears levels are not improving for a group of consumers who have been given extended forbearance by lenders. We expect financial pressures to remain elevated for some considerable time. Arrears management is still intensive, and the prognosis is uncertain for possession trends.  We hope the coalition government will not reverse the welcome trend this year by removing support mechanisms that work for consumers.

Looking forward – strong headwinds

There is a range of risks and uncertainties surrounding the outlook for 2011. Fiscal austerity measures will inevitably slow the economic recovery and dampen the housing market. We are not optimistic that the housing and mortgage markets will be given relative priority compared with other spending choices. We will know more when the government announces its spending cuts. 

But it will take time to assess how this will feed through into consumer confidence and demand for borrowing. And we will need time to assess the impact and relative attractiveness of home-ownership compared to other housing tenures.

The safety net for borrowers in financial difficulty is weakened by the prospect of higher interest rates, a possible rise in unemployment driven by the public sector, a counter-productive stigma hanging over mortgage payment protection insurance, uncertainty over future debt advice funding, reduced government support for mortgage interest payments, and mortgage rescue schemes being reviewed. 

Also, the Bank of England highlighted in its recent Financial Stability Report (FSR) that there are uncertainties surrounding the end of official support schemes - the Special Liquidity Scheme and Credit Guarantee Scheme - from next year onwards. On balance, we believe that the disruption to funding availability will constrain the supply of lending but it is difficult to be certain to what extent and in which parts of the market. If borrower demand persists in the business sector, it may be that funding is prioritised in this direction rather than personal mortgages which could impact activity levels.

And the prospect of more restrictive mortgage regulation may make it harder for some to access mortgage finance. We will comment on the consumer, social and economic impact of the FSA’s approach to responsible lending in our response to the FSA consultation paper in November.

Economic background

The new coalition government has started to rein in the public finances. The retrenchment will mainly be achieved through spending cuts. But raising VAT to 20% early next year, and freezing higher income tax thresholds, will suppress income growth and act as a drag on household confidence and consumer spending.

While interest rates look set to remain low for some time, reduced public spending and higher taxes will inevitably slow the recovery. And some commentators have argued that there is a risk that the economy will stutter in response, potentially slipping back into recession. The strong second quarter growth rate is likely to be the high point of the near term recovery. The newly created Office for Budget Responsibility (OBR) expects the economy to grow modestly this year before accelerating next and achieving rather stronger growth thereafter. A relatively slow pick-up in the wider economy will be a difficult backdrop for the housing market.

Housing market activity

The recovery in the housing market over the second half of last year has run out of steam in early 2010. Prices look to be broadly stagnating following a rise over the latter part of last year. This is unsurprising given the end of the stamp duty holiday, signs of more supply coming onto the market (in part due to the abolition of Home Information Packs), and a tailing off in the number of cash buyers who provided a short-term market boost last year.

There are factors that should support the market going forward, including the stamp duty exemption for first-time buyers up to £250,000 and low interest rates helping those able to access credit. The increase in Capital Gains Tax from 18% to 28% for higher rate payers was a smaller increase than had been feared, and should not have a significant impact on demand in the investor or second home market.

But, overall, we anticipate little change in housing market turnover over the latter part of this year. 2009 saw a post-war low in housing transactions. We forecast only a modest rise for 2010 as a whole, and expect turnover to remain low for some time with a real potential for a further drop if some of the downside risks materialise.

Lending volumes

There is a range of factors that are likely to hold back lending activity.

Lenders still face considerable funding uncertainties as they look to refinance wholesale assets when official support schemes start to be unwound from next year and existing funding lines come up for refinancing. The Bank has said it will not extend the Special Liquidity Scheme, and estimated in the Financial Stability Report that the financial sector has around £800 billion to refinance over the next 30 months. At the same time, spill-over from the European sovereign debt markets has not helped the mood in the wholesale markets.

The FSR showed that the Bank has concerns about firms’ ability, in aggregate, to raise sufficient funds given the economic backdrop limiting how much households are able to save.  We share that concern and, at this stage, believe the funding gap could impact on market activity. However, it is difficult to assess how, and to what extent, as the current situation is unique.

The prospect of tighter prudential regulation over the longer term, with the need to shift to more longer-term funding sources, and the inevitable increase in costs and diminished capacity to lend this will bring, will put further pressure on lenders’ ability to increase the flow of credit into the mortgage market back to more normal levels.

Meanwhile, the Mortgage Market Review could have significant impacts on lenders’ appetite to lend and the price of mortgage credit in the future, as they anticipate and respond to the switch in regulatory responsibilities set out in the FSA’s responsible lending consultation paper. As the proposals currently stand, they could permanently restructure the lending landscape, shrinking the mortgage market, restructuring relationships between lenders and intermediaries, excluding some credit-worthy potential first-time buyers, and preventing some existing borrowers from moving or remortgaging as some product types are removed from the market permanently.

The cumulative impact remains to be assessed but, even at this early stage, we think this will have a significant impact on borrowers’ housing choices in the future. Fewer will be able to become home-owners if the current FSA proposals proceed.

With remortgage activity likely to remain subdued for some time yet, and housing turnover to remain at low levels, gross lending will remain much lower than it was in the years preceding 2007. 

At the same time, demand for finance remains subdued for the reasons outlined above. So there is unlikely to be much increase in outstanding mortgage balances over the next few years, and the possibility of a decline cannot be ruled out.

Arrears and repossessions

Record low interest rates have played a crucial role in containing mortgage payment stress. With almost two-thirds of the UK mortgage book now on variable interest rates, many borrowers have benefitted from the Bank of England reducing its benchmark rate to a historic low. Lower monthly mortgage bills have helped the majority of households − even those with stagnant or reduced earnings − to keep up with their mortgage payments.

Meanwhile unemployment has not risen as sharply as had been feared and for now looks to have broadly stabilised at around 2.5 million. As fiscal cuts hit, there will be large scale public sector job losses, which the government hopes will be replaced by new private sector jobs. The OBR estimates 600,000 jobs will go in the public sector over the next five years, and there is uncertainty as to whether the private sector can or will grow quickly enough to fully off-set this with other economic and business pressures in place in the UK and global markets.

There is only a low probability of a significant hike in official rates for some time, but it cannot be ruled out if inflation remains stubbornly high. While MPC members may be slow to tighten policy, the precarious state of many households finances mean that even modest rate increases could have a significant impact on arrears levels (but it should be emphasised not necessarily on repossessions through the courts).

We do not foresee much change in the number of borrowers behind on their mortgages over the rest of 2010. With lenders offering a wider range of forbearance strategies, fewer borrowers have faced the prospect of repossession than in the early 1990s. But, there remains a relatively large share of cases in “deep” arrears. These borrowers are less likely to improve their situation, and remain more vulnerable to repossession than those in relatively light arrears.

We expect repossessions to remain elevated for some time. A recent CLG econometric study pointed to possession levels remaining relatively high even under a fairly benign economic backdrop, and suggested a substantially higher repossessions figure if the economy worsens dramatically. Our central view is that we will have a number of years where possessions will overhang the end of the recession, and be comparatively high compared to the pre-2007 period. However, working with borrowers, debt advice agencies and government, lenders will continue to seek to avoid a worsening possessions picture towards levels we last saw in the early 1990s. Nevertheless, extended forbearance also has limits if the borrower is unable to retrieve their financial position. 






Residential property transactions, UK, millions  





Gross advances, £bn





Net lending, £bn





Arrears, 2.5% or more of oustanding
balance at  end period







% of all mortgages





Possessions in period:








% of all mortgages





Source: Bank of England, National Statistics, HM Revenue and Customs, CML

Notes:     1.  The HMRC series relates to residential transactions over £40k.  It is a new series which started in April 2005.   
2.  Figures for arrears and possessions relate only to first charge mortgages held by lenders who are members of the CML.They do not include arrears and possessions relating to other secured lending or to firms that are not CML members.     
3.  November 2009 forecasts, where comparable, shown in brackets.
 f - forecast