The Bank of England has imposed limits on household borrowing for the first time since 1980 in a bid to stop a credit boom emerging amid surging house prices.
The restrictions on large loans imposed by the bank’s financial policy committee will not affect current lending, but it will seek to prevent lending from taking off as the UK economy recovers. The central bank expects house prices to rise a further 20 per cent.
In putting a cap on the proportion of large mortgages a bank can issue compared with borrowers’ incomes, BoE governor Mark Carney warned that he would not countenance a further credit-fuelled housing boom. “This is the limit of our tolerance, and that is why there is a cap in place,” he said.
Riskier lending
He added that the measures “will prevent lending getting too far ahead of income growth, and they’ll prevent a slide into riskier lending and higher indebtedness that could undermine the economic expansion over the medium term”.
But the BoE carefully calibrated its actions on the housing market not to restrict the ability of banks to lend or homebuyers to borrow. Under its central scenario that house prices would rise 20 per cent over the next three years, it expected the committee’s actions on the economic recovery and housing market to be “minimal”.
Only if house prices rose another 45 per cent would the measures bite, Mr Carney said, because the BoE did not believe there was an immediate problem of excessive debt and a housing bubble.
Although the moves to limit borrowing were the first since Margaret Thatcher abolished the “corset” quantitative controls on credit in 1980, the BoE played down the effects of its cap even in the scenario of rapid house price increases.
‘Reduce volatility’
It expected the maximum impact of the policy under a boom scenario to lower the level of national income by 0.25 per cent. Against this potential cost, the bank said its actions would “reduce macroeconomic volatility and the likelihood and severity of financial instability”.
The BoE loan restriction, recommended by the International Monetary Fund, puts a limit on the proportion of mortgages a bank can issue with large loans relative to borrowers’ incomes.
The limit was set to restrict lending at income multiples above 4.5 to no more than 15 per cent of a bank’s new lending for home purchases. At present, no bank exceeds this limit and the average level of lending above a 4.5 loan-to-income ratio is only 10 per cent.
Loans for remortgages that do not increase the principal are excluded, as are loans for buy-to-let properties.
The bank also said lenders must ensure new borrowers would still be able to afford their loans if interest rates rose 3 percentage points in the first five years. – (Copyright The Financial Times Limited 2014)
