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Can the market cope after the Term Funding Scheme cliff-edge?

  • 24/08/2017
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A prominent economist has called for the Bank of England to scrap its cheap funding scheme for financial institutions, amid concerns it is helping to fuel a credit boom, but how would turning this tap off affect the mortgage market?

This week, economist Simon Ward called on the Bank of England to close its Term Funding Scheme (TFS), arguing that it was confusing monetary policy.

The scheme was introduced following the Brexit vote last year and designed to encourage banks to maintain their lending at cheaper rates, passing on the full interest rate cut announced last year. It is due to close in February.

Ward told The Times that the scheme contradicted the Bank of England’s message that interest rates would rise sooner than markets expect, adding: “They say markets are too dovish but deposits and lending rates are being suppressed by the TFS. They are saying rates will be higher but then keeping them down. It should be closed now.”


More liquidity

Robert Sinclair, chief executive of the Association for Mortgage Intermediaries, pointed out that the Term Funding Scheme is much more focused on boosting liquidity compared to its predecessor, the Funding for Lending scheme, where banks were able to use that funding in a host of different ways.

He continued: “The concern is that there are fewer properties coming to market. As a result, we have money chasing fewer properties, which is inflation in itself. If we withdrew the money, would that tighten the supply even more?”

Sinclair added that while there were concerns around a credit bubble, this was not mortgage-related.

“This increase in credit is in unsecured debt rather than mortgage debt. Rates are low, which is helping people to fund the retail economy, but we are not seeing significant growth on mortgage balances,” he concluded.


Artificially low

Paul Flavin, managing director of Zing Mortgages, said there is a risk of becoming blinkered by the artificially low rates offered on mortgages, noting that people soon adapt to having extra money in their pocket from mortgage savings, but have less propensity to change when repayments are increasing.

He continued: “My worry is that, unless we make the return to normality – whatever that may be – both a steady and cautious one, allowing a little air at a time out of the credit bubble that already exists, we’ll see that bubble burst and be left to face the consequences. People need time to adapt and are slow to change when what’s being asked is to be more cautious.”

Jenny Watts, managing director at Habito, said the TFS has served its purpose on the whole, but there is no reason to close it early, with a controlled exit exactly what is needed.

She continued: “At some point, the Base Rate will normalise but at a new normal which I would expect to be somewhere around 2.0% to 2.5%, rather than the historical normal of 5%.

“So, the current levels of stress testing ensures that consumers are protected from taking a mortgage that becomes unaffordable in the future. That said, a gradual increase is the key to giving people time to adjust their spending to higher mortgage outgoings.

“Arguably the end of the TFS will see an interest rate rise by lenders, even without any upwards move in the base rate, which further cements the need for slow and steady interest rate increases.”

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