Borrowers do not appear to be taking into account the likely rise in interest rates when calculating how big a mortgage they can afford, the Central Bank has warned. Una McCaffrey reports.
Mortgage rates now at 3.5 per cent could rise as high as 6 per cent in the years ahead, substantially increasing repayments, the Central Bank said
While not making any forecast on the timing of rate increases, it said there is a danger that borrowers "are not paying sufficient heed to this possibilty".
Speaking at the launch of the bank's Financial Stability Report yesterday, the Governor, Mr John Hurley, warned that some home-owners could be associating the adoption of the euro with "permanently low interest rates".
The report, published as a separate analysis by the Central Bank for the first time yesterday, identified the danger of an "unanticipated and sudden fall in residential property prices, accompanied by an increase in the default rate among mortgage holders" as the risk that poses the greatest threat to the financial system.
Borrowers must take a longer-term view, Mr Hurley said, warning that the variable rates that govern the bulk of the Republic's mortgages do not reflect where the economy will be in the medium term. The Central Bank also warns housing investors that rents available on properties may not cover the cost of mortgage repayments.
The Central Bank has long been concerned about the amount of money that consumers borrow to fund property purchases each year. Personal debt has doubled in the past decade and the Central Bank again expressed concern at the rate at which credit is growing. It has found that first-time buyers now shoulder more of a debt burden than their peers in the early to mid-1990s. This means that the relative weight of mortgage repayments has not diminished in line with the declining interest rates that have been recorded since then.
This has seen households choosing to borrow more or to extend the term of their loans. The average mortgage repayment burden on first-time buyers has grown from 23.7 per cent of disposable income in 1995 to 27.1 per cent in 2004.
The Central Bank wants to make sure that lenders are "stress-testing" each mortgage they advance to work out how affordable it would be in a recession. It is considering asking borrowers to sign a document to testify that they agree with a lender's assessment of their ability to repay.
An industry-wide stress test conducted by the Central Bank found that the profits and provisions of the 12 main lenders would be "resilient" to a severe recession.
This would not protect borrowers, however, with much of the resilience displayed by lenders based on their ability to call in the collateral, or property that backs their loans. First-time buyers would be hardest hit here according to the Central Bank's analysis.
"The most significant losses for the banking system would arise from those borrowers who have only recently taken out mortgages and have not yet built up significant equity in their properties," it warns.
"The risk to late borrowers is very obvious," said Central Bank director general, Mr Liam Barron, in reference to a recession.
The Central Bank warned that the risk of a "sharp correction" will rise if house prices continue to grow by double-digit percentages.
Market analysts are divided on when the European Central Bank will push up rates here, but most expect mortgage costs to be on the rise by next year at the latest.