Interest rates have a strong influence on house prices, principally because changes in the interest rate affect the cost of mortgage payments.
How do interest rates affect house prices?
- If interest rates rise it will have a significant effect on increasing the cost of mortgages. Higher mortgage payments will deter prospective home-buyers – it becomes relatively cheaper to rent.
- Also, the high cost of mortgage payments may also force some existing home-buyers to sell.
- This increase in sellers and decline in buyers will cause house prices to fall.
- See also: The effect of higher interest rates
When interest rates were increased 1988-92, mortgage interest payment rose rapidly.
The rise in mortgage payments and rise in home repossessions of 1991/92 led to a rapid fall in house prices.
UK base rates
High interest rates caused house price fall in 1990.
However, the fall in 2008/09 – was not due to interest rates, but due to global credit crunch and recession.
Evaluation
- It is important to bear in mind that interest rates are not the only factor affecting house prices. It is possible for interest rates to increase, but house prices to continue to rise.
- For example, if confidence is high and we experience a period of rising incomes then people may continue to buy, despite the rise in interest rates.
- The supply of housing is also very important. A big factor in the current rise of UK house prices is due to the shortage of supply, which is pushing house prices higher.
- Fixed rate mortgages. Around 50% of homeowners are on fixed-rate mortgages, therefore, they will not notice the effects of higher interest rate payments until they remortgage in 2 or 5 years time. There is often a time-lag between higher interest rates and the effect on house prices.
