Cicero Policy Briefer

Issue 15, August 2007

Long-term fixed rate mortgages: Government outpaces industry innovation

By Iain Anderson

While the housing market waited in trepidation for the impact of the introduction of Home Information Packs, the new Brown Government has set to work on the development of a raft of new mortgage market initiatives which will place the sector towards the top of the Treasury's agenda in coming months.

The Pre-Budget report—now likely to be held on 17 October alongside the unveiling of the Comprehensive Spending Review—is set to report back on some of these market mechanism initiatives which include:

• new legislative proposals for a covered bond regime to assist longer term mortgage finance
• a review of the barriers to lenders wanting to raise funds in wholesale markets
• Government backing for the Butterfill Bill—a Private Member’s Bill which will give building societies more flexibility in mortgage finance from wholesale markets

The BIG question, which some mortgage lenders have already asked, is: is the focus of these activities right? And indeed, is there any significant demand for very long term fixed rates? The evidence from lenders who brought 25-year fixed rates to the market in the wake of the Miles Review in 2004 showed scant consumer demand.

However market conditions—reflected in considerably higher interest rates—have changed markedly since 2004 and the Government's latest intervention might provoke at least some innovative thinking from the industry.

Professor Miles has also recently written about the benefits of developing a new breed of home loan—indexed mortgages. To quote Miles:

'There are potentially big advantages in having the cost of mortgages more predictable in real terms and also having some element of the cost of repaying debt linked to changes in the value of the home.’ 1

A striking idea—and one which might meet with significant demand in the wholesale markets—allowing a better alignment between pricing and risk.

At the moment there remains a degree of dissonance between the direction of these Treasury-led reviews and some wider market commentary from lenders. However, the onset of a new Government provides the industry with a new public policy opportunity to innovate—one which really needs to be grabbed.

1. David Miles, “End cycle of mortgage misery”, Financial Times, July 18th 2007

Iain Anderson can be contacted on +44 (0)20 7665 9532 or click here to email.

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