Another good reason to keep interest rates low

Former Bank of England economist Danny Gebay has warned that many British households are being kept afloat by low interest rates and that a rate rise could cause a large number of them to default. The problem, he says, is that banks have “lent too much money against assets that have fallen in value, and those losses have to be fully recognised.”

In other words, there is still a lot of toxic mortgage debt in our financial system and a rate rise, combined with falling property prices, could leave people unable to pay their mortgages or pay off their loans by selling their houses.

Mr Gebay argues that the government should use the next round of quantitative easing to buy these bad mortgages from the banks. This is not as bonkers as it sounds. The taxpayer already owns the bad mortgage books of Northern Rock and Bradford and Bingley, both of which are now making a profit.

Look carefully at the ONS public finance bulletin. There has been a change since last year. The “effects of financial interventions” figure no longer increases the monthly deficit; it reduces it. This is because most of the mortgage holders that everyone thought would default didn’t, which is largely due to the low interest rates. People are continuing to pay their mortgages, so the government is getting a nice little earner from the Northern Rock and Bradford and Bingley loans and from other banks paying into a government insurance fund which hasn’t had to pay out yet. Taking on more toxic mortgages would add to this income provided that most of them didn’t default.

Of course, this only works if interest rates are kept low. If they start to rise, even the loans that are already on the government’s books would start to go bad and the taxpayer would be making a loss again.

As Stephanie Flanders says, it is extremely unlikely that the government will go for Mr Gebay’s plan but, even if it doesn’t, with so much toxic debt still in the system and the taxpayer owning or underwriting so much of it, increasing interest rates would be a really mad thing to do.

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One Response to Another good reason to keep interest rates low

  1. Pingback: Another good reason to keep interest rates low - Rick - Member Blogs - HR Blogs - HR Space from Personnel Today and Xpert HR

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